[Federal Register Volume 77, Number 59 (Tuesday, March 27, 2012)]
[Proposed Rules]
[Pages 18109-18127]
From the Federal Register Online via the Government Printing Office [www.gpo.gov]
[FR Doc No: 2012-7268]
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Proposed Rules
Federal Register
________________________________________________________________________
This section of the FEDERAL REGISTER contains notices to the public of
the proposed issuance of rules and regulations. The purpose of these
notices is to give interested persons an opportunity to participate in
the rule making prior to the adoption of the final rules.
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Federal Register / Vol. 77, No. 59 / Tuesday, March 27, 2012 /
Proposed Rules
[[Page 18109]]
FEDERAL DEPOSIT INSURANCE CORPORATION
12 CFR Part 327
RIN 3064-AD92
Assessments, Large Bank Pricing
AGENCY: Federal Deposit Insurance Corporation (FDIC).
ACTION: Notice of proposed rulemaking and request for comment.
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SUMMARY: The FDIC proposes to amend its regulations to revise some of
the definitions used to determine assessment rates for large and highly
complex insured depository institutions. The FDIC believes these
proposed amendments will result in more consistent reporting, better
reflect risk to the FDIC, significantly reduce reporting burden, and
satisfy many concerns voiced by the banking industry.
DATES: Comments must be received on or before May 29, 2012.
ADDRESSES: You may submit comments on the notice of proposed
rulemaking, identified by RIN number and the words ``Assessments, Large
Bank Pricing Definition Revisions Notice of Proposed Rulemaking,'' by
any of the following methods:
Agency Web Site: http://www.FDIC.gov/regulations/laws/federal/propose.html. Follow the instructions for submitting comments
on the Agency Web Site.
Email: Comments@FDIC.gov. Include the RIN number in the
subject line of the message.
Mail: Robert E. Feldman, Executive Secretary, Attention:
Comments, Federal Deposit Insurance Corporation, 550 17th Street NW.,
Washington, DC 20429.
Hand Delivery: Guard station at the rear of the 550 17th
Street Building (located on F Street) on business days between 7 a.m.
and 5 p.m.
Instructions: All submissions received must include the agency name
and RIN for this rulemaking. Comments will be posted to the extent
practicable and, in some instances, the FDIC may post summaries of
categories of comments, with the comments themselves available in the
FDIC's reading room. Comments will be posted at: http://www.fdic.gov/
regulations/laws/federal/propose.html, including any personal
information provided with the comment.
FOR FURTHER INFORMATION CONTACT: Patrick Mitchell, Chief, Large Bank
Pricing Section, Division of Insurance and Research, (202) 898-3943;
Brenda Bruno, Senior Financial Analyst, Division of Insurance and
Research, (630) 241-0359 x 8312; Christopher Bellotto, Counsel, Legal
Division, (202) 898-3801; Sheikha Kapoor, Counsel, Legal Division,
(202) 898-3960.
SUPPLEMENTARY INFORMATION:
I. Background
Legal Authority
The Federal Deposit Insurance Act (the FDI Act) requires that the
deposit insurance assessment system be risk-based.\1\ It defines a
risk-based system as one based on an institution's probability of
causing a loss to the Deposit Insurance Fund (the DIF), taking into
account the composition and concentration of the institution's assets
and liabilities and any other factors that the FDIC determines are
relevant, the likely amount of any such loss, and the revenue needs of
the DIF. The FDI Act allows the FDIC to ``establish separate risk-based
assessment systems for large and small members of the Deposit Insurance
Fund.'' \2\
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\1\ Section 7(b)(1) of the Federal Deposit Insurance Act (12
U.S.C. 1817(b)(1)).
\2\ Section 7(b)(1)(D) of the Federal Deposit Insurance Act (12
U.S.C. 1817(b)(1)(D)).
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Large Bank Pricing Rule
On February 7, 2011, the FDIC Board adopted a final rule that
amended its assessment regulations, by, among other things,
establishing a new methodology for determining assessment rates for
large and highly complex institutions (the February
rule).3 4 The February rule eliminated risk categories for
large institutions and combined CAMELS ratings and certain forward-
looking financial ratios into one of two scorecards, one for highly-
complex institutions and another for all other large institutions. The
scorecards calculate a total score for each institution.\5\ The total
score is then converted to the institution's initial base assessment
rate, which, after certain adjustments, results in the institution's
total assessment rate.\6\ To calculate the amount of the institution's
quarterly assessment, the total base assessment rate is multiplied by
the institution's assessment base and the result divided by four.
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\3\ Assessments, Large Bank Pricing, 76 FR 10672 (February 25,
2011) (to be codified at 12 CFR 327.9).
\4\ A large institution is defined as an insured depository
institution: (1) That had assets of $10 billion or more as of
December 31, 2006 (unless, by reporting assets of less than $10
billion for four consecutive quarters since then, it has become a
small institution); or (2) that had assets of less than $10 billion
as of December 31, 2006, but has since had $10 billion or more in
total assets for at least four consecutive quarters, whether or not
the institution is new. A ``highly complex institution'' is defined
as: (1) An insured depository institution (excluding a credit card
bank) that has had $50 billion or more in total assets for at least
four consecutive quarters and that either is controlled by a U.S.
parent holding company that has had $500 billion or more in total
assets for four consecutive quarters, or is controlled by one or
more intermediate U.S. parent holding companies that are controlled
by a U.S. holding company that has had $500 billion or more in
assets for four consecutive quarters, and (2) a processing bank or
trust company. A processing bank or trust company is an insured
depository institution whose last three years' non-lending interest
income, fiduciary revenues, and investment banking fees, combined,
exceed 50 percent of total revenues (and its last three years
fiduciary revenues are non-zero), whose total fiduciary assets total
$500 billion or more and whose total assets for at least four
consecutive quarters have been $10 billion or more.
\5\ A large or highly-complex institution's total score may also
be adjusted by the large bank adjustment. 76 FR 10672, 10714
(February 25, 2011) (to be codified at 12 CFR 327.9(b)(3)).
\6\ An institution's initial base assessment rate can be
adjusted by the unsecured debt adjustment, the depository
institution debt adjustment, and the brokered deposit adjustment. 76
FR 10672, 10715 (February 25, 2011) (to be codified at 12 CFR
327.9(d)).
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One of the financial ratios used in the scorecards is the ratio of
higher-risk assets to Tier 1 capital and reserves.\7\ Higher-risk
assets are defined as the sum of construction and land development
(C&D) loans, leveraged loans, subprime loans, and nontraditional
mortgage loans. The February rule used existing interagency
[[Page 18110]]
guidance to define leveraged loans, nontraditional mortgage loans, and
subprime loans but refined the definitions to minimize reporting
discrepancies. In arriving at these definitions, the FDIC took into
account comments that were received in response to the two notices of
proposed rulemaking that led to adoption of the February rule.\8\
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\7\ Higher-risk assets are used to calculate the concentration
score, which is part of both the large bank scorecard and the highly
complex institution scorecard. For large institutions, the
concentration score is defined as the higher of: (a) The higher-risk
assets to Tier 1 capital and reserves score or (b) the growth-
adjusted portfolio concentrations score. For highly complex
institutions, it is defined as the higher of: (a) The higher-risk
assets to Tier 1 capital and reserves score or (b) the largest or
top 20 counterparty exposures to Tier 1 capital and reserves score.
\8\ 75 FR 23516 (May 3, 2010); 75 FR 72612 (November 24, 2010).
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While institutions already reported C&D loan data in their
quarterly reports of condition and income (the Call Reports and the
Thrift Financial Reports or TFRs), they did not report the needed data
for the other loans, thus requiring new line items in these reports.
Therefore, on March 16, 2011, the Office of the Comptroller of the
Currency, the Board of the Federal Reserve System, the Office of Thrift
Supervision, the Treasury, and the FDIC (collectively, the agencies)
published a Paperwork Reduction Act of 1995 (PRA) notice under normal
PRA clearance procedures requesting comment on proposed revisions to
the Call Reports, the TFRs, and the Federal Financial Institutions
Examination Council (FFIEC) 002/002S reports that would provide the
data needed by the FDIC to implement the February 2011 rule beginning
with the June 30, 2011, report date (March PRA notice).\9\
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\9\ 76 FR 14460 (March 16, 2011).
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The agencies received 19 comments in response to the March PRA
notice. Of these 19 comments, 17 addressed the new items for subprime
and leveraged loans added to Call Reports and TFRs. The commenters
stated that institutions generally do not maintain data on these loans
consistent with the definitions used in the February rule and would be
unable to report the required data by the June 30, 2011, report date.
These data availability concerns had not been raised during the
rulemaking process leading up to the February rule.\10\
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\10\ In response to the November 2010 NPR on the revised large
institution assessment system, the FDIC received a number of
comments recommending changes to the definitions of subprime and
leveraged loans, which the FDIC addressed in its February rule
amending its assessment regulations. For example, several commenters
to the November 2010 NPR stated that regular (quarterly) updating of
data to evaluate loans for subprime or leveraged status would be
burdensome and costly and, for certain types of retail loans, would
not be possible because existing loan agreements do not require
borrowers to routinely provide updated financial information. In
response to these comments, the FDIC's February rule stated that
large institutions should evaluate loans for subprime or leveraged
status upon origination, refinance, or renewal. However, no comments
were received on the November 2010 NPR indicating that large
institutions would be unable to identify and report subprime or
leveraged loans in accordance with the final rule's definitions in
their Call Reports and TFRs beginning as of June 30, 2011. The data
availability concerns were first expressed in comments on the PRA
notice.
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As a consequence of this unexpected difficulty, the agencies
applied to the Office of Management and Budget (OMB) under emergency
clearance procedures to allow institutions to identify and report
subprime and leveraged loans and securitizations originated or
purchased prior to October 1, 2011, using either their existing
internal methodologies or the definitions contained in existing
supervisory guidance. The reporting options are referred to as
``transition guidance'' and are outlined in the General Instructions
for Schedule RC-O of the Reports of Condition and Income, Memorandum
Items 6 through 15 for leveraged loans and subprime loans. Because the
assessment-related reporting revisions needed to remain in effect
beyond the limited approval period associated with an emergency
clearance request, the agencies, under the auspices of the FFIEC,
submitted the reporting revisions under normal PRA clearance procedures
and requested public comment on July 27, 2011 (July PRA notice).\11\
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\11\ 76 FR 44987 (July 27, 2011).
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The agencies collectively received four comments in response to the
July PRA notice before the comment period closed on September 26, 2011.
The commenters recommended extending the transition guidance for
reporting subprime and leveraged loans until more workable and accurate
definitions were developed. The commenters requested that the
definitions of subprime and leveraged loans be revised because they do
not effectively measure the risk that the FDIC intended to capture.
Rather, commenters maintained that the definitions would capture loans
that are not subprime or leveraged (i.e., are not higher-risk assets)
and require burdensome reporting that could result in inconsistencies
among banks. A joint comment letter from three industry trade groups
also recommended that the definition of nontraditional mortgage loans
be revised.
On September 28, 2011, the FDIC informed large and highly complex
institutions via email (followed by changes to Call Report
instructions) that the deadline for the transition guidance would be
extended to April 1, 2012, and that the FDIC would review the
definitions of subprime and leveraged loans to determine whether
changes to the definitions would alleviate commenters' concerns without
sacrificing accuracy in risk determination for deposit insurance
pricing purposes.
As part of its review, the FDIC considered all comments related to
the higher-risk asset definitions that were submitted in response to
the March and July PRA notices. The FDIC also engaged in extensive
discussions with the industry and industry trade groups over the last
few months to better understand their concerns and to solicit potential
solutions to these concerns.
II. Assessment System for Large and Highly Complex Institutions
The FDIC proposes amendments to the assessment system for large and
highly complex institutions that would: (1) Revise the definitions of
certain higher risk assets, specifically leveraged loans, which would
be renamed ``higher-risk C&I loans and securities,'' and subprime
consumer loans, which would be renamed ``higher-risk consumer loans and
securities''; (2) clarify the timing of classifying an asset as higher
risk; (3) clarify the way securitizations (including those that meet
the definition of nontraditional mortgage loans) are to be identified;
and (4) further define terms that are used in the large bank pricing
rule. The names of the categories of assets included in the higher-risk
assets to Tier 1 capital and reserves ratio have been changed to avoid
confusion between the definitions used in the deposit insurance
assessment regulations and the terms that generally are used within the
industry and in other regulatory guidance. The definitions of C&D loans
would not be amended under the NPR and these loans would continue to be
defined as in the February rule. Nontraditional mortgage loans would
continue to be defined as in the February rule, but the NPR clarifies
how securitizations of nontraditional mortgage loans would be
identified under the definition. The FDIC believes that the proposed
amendments would result in more consistent reporting, better reflect
risk to the FDIC, significantly reduce reporting burden, and satisfy
many of the concerns voiced by the industry after adoption of the
February 2011 rule.
The proposed amendments would be effective on October 1, 2012,
predicated on changes to the Call Report. The effective date is
discussed in detail in Section F below.
A. Higher-Risk Assets
The FDIC uses the amount of an institution's higher-risk assets to
calculate the institution's concentration score and total score. The
concentration measure captures the institution's
[[Page 18111]]
lending (and securities owned) in higher-risk areas; concentrations in
these higher-risk assets contributed to the failure of some
institutions during the recent financial crisis and economic downturn.
Higher-Risk C&I Loans and Securities
Under the proposal, higher-risk commercial and industrial (C&I)
loans and securities would include:
Any commercial loan (funded or unfunded, including
irrevocable and revocable commitments) owed by a borrower to the
evaluating depository institution with an original amount greater than
$5 million if the conditions specified in (a) or (b) below are met as
of origination, or, if the loan has been refinanced, as of refinance,
and the loan does not meet the asset based lending (ABL) exclusion or
the floor plan line of credit exclusion (discussed in Appendix C).
(a)(i) The purpose of any of the borrower's debt (whether owed to
the evaluating insured depository institution or another lender) that
was incurred within the previous seven years was to finance a buyout,
acquisition or capital distribution and such debt was
material;12 13 and
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\12\ For purposes of this definition, the ``purpose of the
borrower's debt'' is determined at the time the debt was incurred by
the borrower. An institution would be required to determine if the
borrower has incurred any debt in the last seven years that meets
the purpose test.
\13\ Following are definitions of some of the terms used under
the proposed rule:
1. Acquisition means the purchase by the borrower of any equity
interest in another company or the purchase of any of the assets and
liabilities of another company.
2. Buyout for purposes of calculating higher-risk C&I assets
means the issuance of debt to finance the purchase or repurchase by
the borrower of the borrower's outstanding equity. A buyout could
include, but is not limited to, an equity buyout or funding of an
Employee Stock Ownership Plan (ESOP).
3. Capital distribution means that the borrower incurs debt to
finance a dividend payment or to finance other transactions designed
to enhance shareholder value, such as repurchase of stock.
4. Material means resulting in a 20 percent or greater increase
anytime within 12 months in the total funded debt of the borrower
(including all funded debt assumed, created, or refinanced). Debt is
also material if, before the debt was incurred, the borrower had no
funded debt.
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(ii) The ratio of the borrower's total debt to trailing twelve-
month EBITDA (i.e., operating leverage ratio) is greater than 4 or the
ratio of the borrower's senior debt to trailing twelve-month EBITDA
(i.e., operating leverage ratio) is greater than 3; \14\ or
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\14\ EBITDA is defined as earnings before interest, taxes,
depreciation, and amortization.
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(b) Any of the borrower's debt (whether owed to the evaluating
institution or another lender) is designated as a highly leveraged
transaction (HLT) by a syndication agent.
All securities held by the evaluating institution that are
issued by a commercial borrower, if the conditions specified in (a) or
(b) above are met, except securities classified as trading book; and
All securitizations held by the evaluating institution
that are more than 50 percent collateralized by commercial loans or
securities that would meet the higher-risk C&I loans and securities
definition if directly held by the evaluating institution, except
securities classified as trading book.
The definition of a higher-risk C&I loan and security would exclude
the maximum amount that is recoverable from the U.S. government, its
agencies, or government-sponsored agencies under guarantee or insurance
provisions, and loans that are fully secured by cash collateral.\15\
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\15\ In order to exclude a loan based on cash collateral, the
cash would be required to be in the form of a savings or time
deposit held by the insured depository institution. The insured
depository institution would be required to have in place a signed
collateral assignment of the deposit account, which is irrevocable
for the remaining term of the loan or commitment, and the insured
depository institution would be required to place a hold on the
deposit account that alerts the institution's employees to an
attempted withdrawal. For the exclusion to apply to a revolving line
of credit, the cash collateral would be required to be equal to or
greater than the amount of the total loan commitment (the aggregate
funded and unfunded balance of the loan).
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An institution would be required to use information reasonably
available to a sophisticated investor in reasonably determining whether
a securitization meets the 50 percent threshold.\16\ Information
reasonably available to a sophisticated investor should include, but is
not limited to, offering memorandums, indentures, trustee reports, and
requests for information from servicers, collateral managers, issuers,
trustees, or similar third parties. When determining whether a
revolving trust or similar securitization would meet the threshold, an
institution could use established criteria, model portfolios, or
limitations published in the offering memorandum, indenture, trustee
report or similar documents.
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\16\ A securitization would be as defined in Appendix A, Section
II(B)(16) of Part 325 of the FDIC's Rules and Regulations, as it may
be amended from time to time.
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Sufficient information necessary for an institution to make a
definitive determination may not, in every case, be reasonably
available to the institution as a sophisticated investor. In such a
case, the institution may exercise its judgment in making the
determination. Nevertheless, the FDIC would retain the right to review
and audit for compliance with the rule any determination that a
securitization does not meet the 50 percent threshold.
In cases where a securitization is required to be consolidated on
the balance sheet as a result of SFAS 166 and SFAS 167, and a large
institution or highly complex institution has access to the necessary
information, an institution may evaluate individual loans in the
securitization on a loan-by-loan basis. Any loan within the
securitization that meets the definition of a higher-risk asset would
be reported as a higher-risk asset and any loan within the
securitization that does not meet the definition of a higher-risk asset
would not be reported as such. When making this evaluation, the
institution would have to follow the transition guidance described in
Appendix C, Section C. Once an institution evaluated a securitization
for higher-risk asset designation on a loan-by-loan basis, it would
have to continue to evaluate all securitizations for which it has the
required information in a similar manner (i.e., on a loan-by-loan
basis). For securitizations for which the institution does not have
access to information on a loan-by-loan basis, the institution would be
required to determine whether the securitization meets the 50 percent
threshold as described previously for other securitizations.
When an institution acquires a C&I loan or security, it would have
to determine whether the loan or security meets the definition of a
higher-risk C&I loan or security using the origination criteria and
analysis performed by the original lender. If this information were
unavailable, however, the institution would have to obtain recent,
refreshed data from the borrower or other appropriate third-party.\17\
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\17\ Somewhat more stringent requirements would apply when an
institution acquires loans or securities from another entity on a
recurring or programmatic basis.
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Appendix C provides detailed definitions of many of the terms used
in the foregoing definition.
In arriving at its proposal, the FDIC carefully reviewed the
comments submitted in response to the March and July PRA notices on the
leveraged loan definition contained in the February rule. Of the 19
respondents commenting on the March PRA notice, 17 raised concerns over
the leveraged loan definition; 6 of the 8 respondents to the July PRA
notice raised such concerns. Further, as the FDIC noted in the public
comment file for the July PRA notice,
[[Page 18112]]
the FDIC met with representatives of four industry trade groups and
twice with large and highly complex institutions prior to the close of
the comment period on the PRA notice.
Three industry trade groups commented on the July PRA notice that
the minimum size for leveraged loans included in the February rule ($1
million or higher) is too low since it would capture a large number of
small business loans that are not normally considered leveraged. These
trade groups commented that the $1 million level overstates leveraged
exposures and creates a significant reporting burden, since banks do
not generally gather the data required to make a leveraged loan
determination for these smaller loans. The commenters further noted
that loans under $5 million are typically characterized by additional
risk-reducing requirements, such as borrower's guarantees and
additional collateral. When these risk-reducing mitigants are
prevalent, relying solely on the debt-to-EBITDA test could be a less
accurate measure of the risk of these borrowers.
The proposal would increase the threshold level to $5 million. The
increased threshold would result in better identification of higher-
risk C&I loans and would also reduce the reporting burden.
In response to the July PRA Notice, three banking industry trade
groups in a joint letter to the FDIC stated that the definition of
leveraged loans used in the February rule does not capture risk as
intended and is not a reliable measure of a leveraged loan. They
maintained that an institution's debt-to-EBITDA ratio is not, by
itself, a reliable indicator of risk, particularly if the loans are
asset based or are to companies or industries that traditionally have
higher leverage levels. They added that the definition of leveraged
loans in the February rule captures such a large portion of an
institution's loan portfolio that it does not provide a meaningful
differentiation of risk among institutions and creates a reporting
burden. The trade groups suggested that considering the purpose of the
loan in conjunction with the borrower's operating leverage ratio would
result in more accurate identification of risk.\18\
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\18\ The operating leverage ratio is the borrower's total or
senior debt to trailing twelve-month EBITDA.
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The proposed definition would combine a test of the borrower's
operating leverage ratio with a purpose test, namely, that if the
purpose of any of the borrower's debt (whether owed to the evaluating
insured depository institution or another lender) was to finance a
buyout, acquisition, or capital distribution, and that debt was
material, a C&I loan or security to that borrower would be classified
as higher risk. The purpose of the debt would help identify risk to the
FDIC and reflect the method used internally by most banks to identify
higher-risk loans. The purpose test would identify those borrowers with
certain higher-risk characteristics, such as a heavy reliance on either
enterprise value or improvement in the borrower's operating
efficiencies.\19\
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\19\ Enterprise value is a measure of the borrower's value as a
going concern.
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The industry suggested in a comment letter to the July PRA Notice
and in subsequent discussions that banks should look back to the
original purpose of debt only if the debt was originally incurred
during the previous five years. Under the proposal, however, banks
would have to look back to the original purpose of any of the
borrower's debt incurred during the previous seven years. During the
most recent buyout boom of the mid to late 2000s, a seven-year maturity
was often the longest dated maturity for loans that facilitated a
leveraged buyout. Under the proposal, where the purpose test is met,
loans originated in 2007 (near the end of the leveraged buyout boom) to
a borrower that remains above the proposed debt-to-EBITDA ratio
thresholds would continue to be classified as higher-risk assets, even
when they are refinanced; loans that are refinanced from the same time
period but where the borrower has de-levered through either EBITDA
growth or debt repayment would not be defined as higher-risk under the
proposal.
Under the proposal, debt to finance a buyout, acquisition, or
capital distribution would also have to be material. Such debt would be
material if it resulted in a 20 percent or greater increase anytime
within 12 months in the total funded debt of the borrower.\20\ During
discussions with the industry, bankers have suggested that total funded
debt should have to increase by 50 percent or more to be considered a
material buyout, acquisition, or capital distribution. Under the
proposal, only a 20 percent increase is required. A 20 percent increase
would be high enough to ensure that the FDIC does not capture
transactions that do not materially increase the risk profile of the
borrower, but low enough to capture transactions such as capital
distributions that benefit the borrower's shareholders while increasing
the risk to the lending institutions.
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\20\ This debt would also be material if, before the debt was
incurred, the borrower had no funded debt.
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The joint comment letter to the July PRA Notice also noted that
collateral was not appropriately considered in the leveraged loan
definition included in the February rule. The commenters stated that
loans would be classified as leveraged even though they had strong
collateral backing them, which should result in significantly lower
loss rates than loans that are dependent primarily on the enterprise
value of a highly-leveraged company. Examples of the loans commenters
thought should be excluded from the leveraged loan definition were
asset-based loans and dealer floor plan loans.
After considering the comments, the proposed rule would exclude
certain well-collateralized asset-based loans and floor plan loans from
the definition of higher-risk C&I loans and securities. Because these
loans carry significant operational risk, the exclusions would apply
only to loans that are well secured by self-liquidating collateral
(i.e., accounts receivable and inventory) and only when the institution
can demonstrate that it has a history of strong risk management and
internal controls over these loans. Excluding loans under these
conditions should result in better differentiation of credit risk among
institutions and should reduce reporting burden.
Under the February rule, higher-risk assets included
securitizations where more than 50 percent of the assets backing the
securitization meet the criteria for leveraged loans. In their joint
comment letter, three industry trade groups stated that the reporting
criteria for securitizations in the February rule is problematic given
the challenges in evaluating individual loans in the securitization
given the lack of standardized disclosure requirements that align with
the FDIC's definition of higher-risk assets.
Under the proposal, higher-risk C&I loans and securities would
continue to include securitizations where more than 50 percent of the
assets backing the securitization meet the criteria for higher-risk C&I
loans or securities. Concentrations in higher-risk assets, whether they
are in the form of a whole loan or a securitization, increase the risk
of loss to the FDIC during times of prolonged periods of economic
stress. Large and highly complex institutions are sophisticated
investors and can typically obtain the information needed to determine
whether a securitization meets the 50 percent threshold described above
when they purchase interests in these securitizations.
[[Page 18113]]
Trade groups also commented that categorizing securitizations as
higher-risk assets based solely on the underlying collateral ignores
important risk mitigants such as credit enhancements. The performance
of a securitization, however, is highly correlated with the performance
of the underlying assets, even when the securitization contains terms
or conditions intended to reduce risk. As stated in an interagency NPR
issued in December 2011, ``during the crisis, a number of highly rated
senior securitization positions were subject to significant downgrades
and suffered substantial losses.'' \21\ Even where losses have not yet
been realized (as in many collateralized loan obligations), the market
value of these securitizations declined precipitously during the
crisis, reflecting the decline in the market value of the underlying
assets and the increased risk of loss.
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\21\ Risk-Based Capital Guidelines: Market Risk: Alternatives to
Credit Ratings for Debt and Securitization Positions 76 FR 79380,
79395 (December 21, 2011).
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Higher-Risk Consumer Loans and Securities
Under the proposal, higher-risk consumer loans and securities would
be defined as:
(a) All consumer loans where, as of origination, or, if the loan
has been refinanced, as of refinance, the probability of default (PD)
within two years (the two-year PD) was greater than 20 percent,
excluding those consumer loans that meet the definition of a
nontraditional mortgage loan; \22\ and
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\22\ A loan that meets both the definitions of a nontraditional
mortgage loan and a higher-risk consumer loan at the time of
origination should be reported as a nontraditional mortgage loan.
However, if the loan later ceases to meet the definition of
nontraditional mortgage loan but continues to still qualify as a
higher-risk consumer loan, it would then be reported as a higher-
risk consumer loan.
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(b) Securitizations that are more than 50 percent collateralized by
consumer loans meeting the criteria in (a), except those classified as
trading book.\23\
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\23\ A securitization would be as defined in Appendix A, Section
II(B)(16) of Part 325 of the FDIC's Rules and Regulations as it may
be amended from time to time.
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An institution would be required to use the information that is or
would be reasonably available to a sophisticated investor in reasonably
determining whether a securitization meets the 50 percent threshold.
Information reasonably available to a sophisticated investor should
include, but is not limited to, offering memorandums, indentures,
trustee reports, and requests for information from servicers,
collateral managers, issuers, trustees, or similar third parties. When
determining whether a revolving trust or similar securitization would
meet the threshold, an institution could use established criteria,
model portfolios, or limitations published in the offering memorandum,
indenture, trustee report or similar documents.
Sufficient information necessary for an institution to make a
definitive determination may not, in every case, be reasonably
available to the institution as a sophisticated investor. In such a
case, the institution may exercise its judgment in making the
determination. Nevertheless, the FDIC would retain the right to review
and audit for compliance with the rule any determination that a
securitization does not meet the 50 percent threshold.
In cases where a securitization is required to be consolidated on
the balance sheet as a result of SFAS 166 and SFAS 167, and a large
institution or highly complex institution has access to the necessary
information, an institution may evaluate individual loans in the
securitization on a loan-by-loan basis. Any loan within the
securitization that meets the definition of a higher-risk asset would
be reported as a higher-risk asset and any loan within the
securitization that does not meet the definition of a higher-risk asset
would not be reported as such. When making this evaluation, the
institution would have to follow the transition guidance described in
Appendix C, Section C. Once an institution evaluated a securitization
for higher-risk asset designation on a loan-by-loan basis, it would
have to continue to evaluate all securitizations for which it has the
required information in a similar manner (i.e., on a loan-by-loan
basis). For securitizations for which the institution does not have
access to information on a loan-by-loan basis, the institution would be
required to determine whether the securitization meets the 50 percent
threshold as described previously for other securitizations.
Institutions would have to determine the PD of a consumer loan as
of origination, or, if the loan has been refinanced, as of refinance.
When an institution acquires a consumer loan or security, it would have
to determine whether the loan or security meets the definition of a
higher-risk consumer loan or security using the origination criteria
and analysis performed by the original lender. If this information is
unavailable, however, the institution would have to obtain recent,
refreshed data from the borrower or other appropriate third-party.\24\
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\24\ Somewhat more stringent requirements would apply when an
institution acquires loans or securities from another entity on a
recurring or programmatic basis.
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In arriving at its proposal, the FDIC carefully reviewed the
comments submitted in response to the March and July PRA notices on the
subprime loan definition contained in the February rule. Of the 19
respondents commenting on the March PRA notice, 17 raised concerns over
the subprime loan definition; 6 of the 8 respondents to the July PRA
notice raised such concerns. Further, as the FDIC noted in the public
comment file for the July PRA notice, the FDIC met with representatives
of four industry trade groups and twice with large and highly complex
institutions prior to the close of the comment period on the PRA
notice.
The representatives stated that institutions generally do not
maintain the data necessary to identify consumer loans as higher-risk
under the February rule, and would not be able to collect such data
prior to filing their Call Reports for the June 30, 2011, report date.
Commenters also stated that adapting current reporting systems to
capture such loans automatically would, in some cases, be impossible
and would require ongoing manual intervention, which is costly and
burdensome.\25\
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\25\ These data availability concerns, particularly as they
relate to institutions' existing loan portfolios, had not been
raised as an issue during the rulemaking process on large bank
pricing that culminated in the February rule.
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A group representing the industry also asserted that the definition
of subprime loans does not correlate with more sophisticated risk-
grading systems generally used by banks internally. While these systems
consider the factors included in the subprime definition, they consider
these jointly rather than individually, and incorporate other
information such as the size and type of delinquency and other measures
of the borrower's debt capacity. As a consequence, the group believed
that using the definition contained in the February rule would greatly
overstate institutions' exposure to subprime loans and relative risk.
In the group's view, this overstatement of exposure and relative risk
could reduce credit or increase its cost for some types of consumers,
such as students, since an institution factors the cost of assessments
into its credit and pricing decisions.
The proposed definition would better capture and differentiate
higher-risk consumer loans and securities among banks compared to the
current
[[Page 18114]]
definition. In addition, the proposal should be easier for institutions
to adopt and implement as it more closely aligns with how they
currently measure risk.
This same industry group proposed an alternative definition of
subprime consumer loans based on PD within one year from origination.
Under the proposal, institutions would report the outstanding balance
of consumer loans in their retail portfolios stratified by a specified
number of products and PD bands. The FDIC has engaged in extensive
discussions with industry representatives regarding this proposal and
incorporated many of the proposal's major elements into the NPR.
The FDIC chose to propose a two-year, instead of a one-year, PD in
order to more closely align with the time horizon used by recognized
third party vendors that produce standard validation charts. These
charts include observed default rates over a specified two-year period
by credit score and product type. If these charts were modified to
conform to the PD estimation guidelines in Appendix C, institutions
could use them to classify consumer loans under the proposed
definition.
A PD estimated according to the guidelines should reflect the
average two-year, stress period performance of loans across a range of
remaining maturities, as opposed to the performance of loans within the
first two years of origination. The FDIC is concerned with potential
default risk throughout the life of the loan and not just over the
first two years following origination. By considering different
origination time periods and various remaining maturities, the proposed
approach should better represent the default risk throughout the life
of the loan. Different product types tend to have different default
profiles over time, with some products resulting in peak default rates
sooner after origination than other products. An approach that
considers various remaining maturities should mitigate the default
timing bias between products following origination of a loan.
The FDIC intends to collect two-year PD information on various
types of consumer loans from large and highly complex institutions.
However, the types of information collected and the format of the
information collected on the Call Report would be subject to a PRA
notice, providing an opportunity for comment, published in the Federal
Register. The following table is an example of how the FDIC may collect
the consumer loan information. Once the definition of higher-risk
consumer loans is adopted in a final rule, the FDIC anticipates that
appropriate changes to the Call Reports would be made and that
institutions would report consumer loans according to the definition in
the final rule. As suggested in the example table below and in Appendix
1, institutions would report the outstanding amount of all consumer
loans, including those with a PD below the subprime threshold,
stratified by the 10 product types and 12 two-year PD bands.\26\ In
addition, for each product type, institutions would indicate whether
the PDs were derived using scores and default rate mappings provided by
a third party vendor or an internal approach.\27\ Institutions would
report the value of all securitizations that are more than 50 percent
collateralized by higher-risk consumer loans (other than trading book)
as a separate item.
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\26\ All reported amounts would exclude the maximum amounts
recoverable from the U.S. government, its agencies, or government-
sponsored agencies under guarantee or insurance provisions, as well
as loans that are fully secured by cash collateral. In order to
exclude a loan based on cash collateral, the cash would be required
to be in the form of a savings or time deposit held by the insured
depository institution, the insured depository institution would be
required to have a signed collateral assignment of the deposit
account, which is irrevocable for the remaining term of the loan or
commitment, and the insured depository institution would be required
to place a hold on the deposit account, which alerts the
institution's employees to an attempted withdrawal. In the case of a
revolving line of credit, the cash collateral would have to be equal
to or greater than the amount of the total loan commitment (the
aggregate funded and unfunded balance of the loan) for the exclusion
to apply.
\27\ An internal approach would include the use of an
institution's own default experience with a particular product and
credit score, whether that score was provided by a third party or
was internally derived.
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[[Page 18115]]
[GRAPHIC] [TIFF OMITTED] TP27MR12.119
The proposed 20 percent PD threshold was determined based on an
evaluation of performance data provided by a couple of large third
party vendors of consumer credit scores. Specifically, for each vendor,
this data contained observed, two-year default rates and the proportion
of consumer accounts captured by credit score and product type. Default
rates were calculated in a manner similar to the guidelines in Appendix
C. The FDIC considered the proportion of consumer accounts and range of
scores that would be deemed higher-risk under different PD thresholds,
overall and by product type, and how those results compare to score-
based definitions of subprime commonly used by the industry. The FDIC
would use the information that would be included in the Call Report to
determine whether the PD threshold should be changed in the future.\28\
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\28\ See 76 FR 10672, 10700 (February 25, 2011) (H. Updating the
Scorecard).
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The FDIC anticipates that it may receive additional or updated
information from third party vendors prior to the Board adopting a
final rule. The FDIC would consider any additional information received
before it proposes that a particular PD threshold be adopted in the
final rule. In reviewing the PD threshold, the FDIC would use a
methodology similar to the methodology described above. The methodology
used would include consideration of the proportion of consumer accounts
and range of scores that would be deemed higher risk under different PD
thresholds and how those compare to score-based definitions of subprime
commonly used in the industry.
During discussions with the industry, a few institutions suggested
that the FDIC have the flexibility to modify the time periods used for
PD estimation without further notice-and-comment rulemaking. The
institutions suggested that the FDIC could either change the time
period considered or add additional time periods to the existing time
period. The FDIC agrees that having the flexibility to modify the time
periods, as part of the risk-based assessment system, would allow the
FDIC to better differentiate risk among institutions. For example, a
material change in consumer behavior or the development of new consumer
products or default data might suggest changes to what should be
considered a higher-risk consumer loan. Under these
[[Page 18116]]
circumstances, incorporating new or additional time periods might
better capture either the changes in consumer behavior or new
potentially higher-risk consumer products so that FDIC can better
identify and measure emerging risks. The FDIC would also have, as part
of the risk-based assessment system, the flexibility to increase or
decrease the PD threshold of 20 for identifying higher-risk consumer
loans to reflect the updated consumer default data from the different
time periods selected without the necessity of further notice-and-
comment rulemaking. Before making changes to the established PD
threshold, the FDIC would analyze resulting potential changes in the
distribution of the higher-risk consumer loans and would consider the
resulting effect on total deposit insurance assessments and risk
differentiation among institutions. The FDIC would provide institutions
with at least one quarter advance notice of any changes to the PD
estimation time periods or the PD threshold. \29\
---------------------------------------------------------------------------
\29\ Reporting all consumer loans by product and PD bands was
part of the industry's proposal to strengthen identification of
higher-risk consumer loans.
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Nontraditional Mortgage Loans
The proposal does not make changes to the definition of a
nontraditional mortgage loan; however, it does clarify how
securitizations of nontraditional mortgage loans would be identified
under the current definition.\30\
---------------------------------------------------------------------------
\30\ A securitization would be as defined in Appendix A, Section
II(B)(16) of Part 325 of the FDIC's Rules and Regulations, as it may
be amended from time to time.
---------------------------------------------------------------------------
In a comment letter in response to the March and July PRA notices,
three industry trade groups stated that the criteria outlined for
identifying nontraditional mortgage loans in the February rule do not
fully differentiate risk among banks or among nontraditional mortgage
loans. The commenters maintained that not all nontraditional mortgage
loans contain the same level of risk. The industry suggested that banks
identify and report nontraditional mortgage loans by the PD within one
year from origination as determined as of origination by a credit
scoring system, similar to their recommendation for reporting subprime
consumer loans.
After reviewing the merits of the industry's suggestions, the FDIC
has concluded that identifying a mortgage loan using a one-year PD
would be inappropriate given the unique risks of nontraditional
mortgage loans. Unlike leveraged loans and subprime loans, institutions
have not indicated any difficulty complying with the existing
definition of nontraditional mortgage loans and the FDIC believes that
changes to the definition would not result in better risk determination
for deposit insurance pricing purposes. The FDIC will monitor future
rulemakings regarding Qualified Residential Mortgages and the capital
treatment of nontraditional mortgage loans to determine whether any
changes to the definition should be considered.
Large and highly complex institutions are sophisticated investors
and can typically obtain the information needed to determine whether a
securitization meets the 50 percent threshold described above when they
purchase interests in these securitizations. The proposal clarifies
that an institution would be required to use information reasonably
available to a sophisticated investor in reasonably determining whether
a securitization meets the 50 percent threshold of the assets backing a
securitization contain nontraditional mortgage loans.
Information reasonably available to a sophisticated investor should
include, but is not limited to, offering memorandums, indentures,
trustee reports, and requests for information from servicers,
collateral managers, issuers, trustees, or similar third parties. When
determining whether a revolving trust or similar securitization would
meet the threshold, an institution could use established criteria,
model portfolios, or limitations published in the offering memorandum,
indenture, trustee report or similar documents.
Sufficient information necessary for an institution to make a
definitive determination may not, in every case, be reasonably
available to the institution as a sophisticated investor. In such a
case, the institution may exercise its judgment in making the
determination. Nevertheless, the FDIC would retain the right to review
and audit for compliance with the rule any determination that a
securitization does not meet the 50 percent threshold.
In cases where a securitization is required to be consolidated on
the balance sheet as a result of SFAS 166 and SFAS 167, and a large
institution or highly complex institution has access to the necessary
information, an institution may evaluate individual loans in the
securitization on a loan-by-loan basis. Any loan within the
securitization that meets the definition of a higher-risk asset would
be reported as a higher-risk asset and any loan within the
securitization that does not meet the definition of a higher-risk asset
would not be reported as such. When making this evaluation, the
institution would have to follow the transition guidance described in
Appendix C, Section C. Once an institution evaluated a securitization
for higher-risk asset designation on a loan-by-loan basis, it would
have to continue to evaluate all securitizations for which it has the
required information in a similar manner (i.e., on a loan-by-loan
basis). For a securitizations for which the institution does not have
access to information on a loan-by-loan basis, the institution would be
required to determine whether the securitization meets the 50 percent
threshold as described previously for other securitizations.
Under the proposal, institutions would also have to determine
whether residential loans and securities meet the definition of a
nontraditional mortgage loan as of origination, or, if the loan has
been refinanced, as of refinance, subject to requirements similar to
those proposed for higher-risk consumer loans.
When an institution acquires a residential loan or security, it
would have to determine whether the loan or security meets the
definition of a nontraditional mortgage loan using the origination
criteria and analysis performed by the original lender. If this
information were unavailable, however, the institution would have to
obtain recent, refreshed data from the borrower or other appropriate
third-party.\31\
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\31\ Somewhat more stringent requirements would apply when an
institution acquires loans or securities from another entity on a
recurring or programmatic basis.
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B. Evaluation of Higher-Risk Assets
The FDIC proposes that institutions evaluate C&I and consumer loans
as of origination and refinance to determine whether they meet the
criteria for higher-risk assets. A loan that is determined to be both a
higher-risk consumer and a nontraditional mortgage loan should be
reported only as a nontraditional mortgage loan, not both.
C. Large Bank Adjustment Process
The FDIC currently has the ability to adjust a large or highly
complex institution's total score (which is used to determine its
deposit insurance assessment rate) by a maximum of 15 points (the large
bank adjustment).\32\ Because the proposed definitions should result in
better risk identification and consistent application across the
industry, the FDIC anticipates that there would be limited
circumstances where the FDIC would consider a large bank adjustment as
a result of perceived mitigants to an institution's higher-risk
[[Page 18117]]
concentration measure. The proposed revised definitions, which include
specific exceptions for well-collateralized loans, should result in
generally equal treatment of similar loans at different institutions.
---------------------------------------------------------------------------
\32\ 76 FR 10714 (February 25, 2011) to be codified at 12 CFR
327.9(b)(3).
---------------------------------------------------------------------------
D. Audit
Several of the proposed changes could require periodic auditing to
ensure consistent reporting across the industry. For example, the PD
calculation, whether through credit score mapping or through an
internal approach, if not properly monitored, could potentially result
in inconsistent application. Also, institutions would need to carefully
evaluate their controls for asset-based and floor plan lending to
determine whether they can exclude these loans from their higher-risk
C&I loans and securities totals. The FDIC expects institutions will
have appropriate systems in place for the proper identification and
reporting of higher-risk assets. Enhanced review procedures for higher-
risk asset reporting should be part of these systems. Institutions'
higher-risk identification and reporting programs should include
applicable policies, procedures, reviews, and validation (through
internal or external audits). The results of any internal reviews or
external audits of higher-risk assets reporting should be made
available to the FDIC upon request. The FDIC may review and audit for
compliance all determinations made by insured institutions for
assessment purposes. The FDIC may also review specific details of an
institution's reporting, including loans that are excluded from higher-
risk assets. Any weakness identified in the reporting of higher-risk
assets may be considered when forming supervisory strategies or in the
application of adjustments to an institution's total score as outlined
in the Guidelines.
E. Updating the Scorecard
As set forth in the February rule, the FDIC has the flexibility to
update the minimum and maximum cutoff values used in each scorecard
annually without further rulemaking as long as the method of selecting
cut-off values remains unchanged.\33\ The FDIC can add new data for
subsequent years to its analysis and can, from time to time, exclude
some earlier years from its analysis. Updating the minimum and maximum
cutoff values and weights allows the FDIC to use the most recent data,
thereby improving the accuracy of the scorecard method.\34\
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\33\ 76 FR 10672, 10700 (February 25, 2011) (H. Updating the
Scorecard).
\34\ If, as a result of its review and analysis, the FDIC
concludes that different measures should be used to determine risk-
based assessments, that the method of additional or alternative
selecting cutoff values should be revised, that the weights assigned
to the scorecard measures should be recalibrated, or that a new
method should be used to differentiate risk among large institutions
or highly complex institutions, changes would be made through a
future rulemaking.
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The new definitions would allow the FDIC to better measure the risk
present in large and highly-complex institutions, but they do not
change that risk. Unless the FDIC re-calibrates cutoff values for the
higher-risk assets to Tier 1 capital and reserves ratio, however, the
proposed changes to the definitions of higher-risk assets could result
in significant increases or decreases in the amount of total deposit
insurance assessments collected from large and highly complex banks.
Each scorecard measure, including the higher-risk assets to Tier 1
capital and reserves ratio, is converted to a score between 0 and 100
based upon minimum and maximum cutoff values for the measure (where the
minimum and maximum cutoff values get converted to a score of 0 or
100). Most of the minimum and maximum cutoff values represent the 10th
and 90th percentile values for each measure, which are derived using
data on large institutions over a ten-year period beginning with the
first quarter of 2000 through the fourth quarter of 2009. Since the
cutoff values for the higher-risk assets to Tier 1 capital and reserves
ratio were calibrated using higher-risk assets data reported in
accordance with an institution's existing methodology for identifying
leveraged or subprime loans and securities, changing the definitions of
these higher-risk assets may result in significant differences in the
volume of higher-risk assets reported by institutions, and differences
in the amount of deposit insurance assessments collected by the FDIC.
The FDIC does not intend for the proposed changes in definitions to
result in the FDIC collecting higher or lower deposit insurance
assessment revenue from large and highly complex institutions as a
whole (although it may result in individual institutions paying higher
or lower deposit insurance assessments). Consequently, the FDIC
anticipates that it may need to use its flexibility to update cutoff
values to update the minimum and maximum cutoff values for the higher-
risk assets to Tier 1 capital and reserves ratio.\35\ Changes in the
distribution of the higher-risk assets to Tier 1 capital and reserves
ratio scores and the resulting effect on total assessments and risk
differentiation between institutions would be taken into account in
determining changes to the cutoffs. In addition, because the FDIC has
not collected any data under the proposed definitions, changes to
cutoff values for the higher-risk assets to Tier 1 capital and reserves
ratio could be made more frequently than annually. This review would
ensure proper risk differentiation between institutions.\36\
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\35\ 76 FR 10672, 10700 (February 25, 2011).
\36\ The FDIC would provide large and highly-complex
institutions with at least one quarter advance notice in their
quarterly deposit insurance invoice of changes in the cutoff values
to ensure that the industry can determine the effect that any
changes may have on its assessments.
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F. Implementation and Effective Date
To allow time for institutions to implement systems to comply with
the revised definitions, predicated on Call Report changes, the
proposed amendments would become effective October 1, 2012. Because the
FDIC is proposing no amendments to the definitions of construction and
land development loans and nontraditional mortgage loans (other than to
clarify how securitizations that meet the definition of a
nontraditional mortgage loan are to be identified), the FDIC proposes
that institutions continue to define and report these higher-risk
assets as they have been doing under the February rule.
Transition Guidance Until Effective Date
Prior to October 1, 2012, large institutions and highly complex
institutions will continue to use the transition guidance for leveraged
loans and subprime loans as outlined in the General Instructions
(Instructions) for Schedule RC-O of the Consolidated Reports of
Condition and Income, Memorandum items 6 through 15. The Instructions
will be updated as of March 31, 2012 to reflect October 1, 2012
(formerly April 1, 2012) as the date to begin identifying newly
originated loans and securities according to the proposed definitions
of these two higher-risk asset categories.
This transition guidance provides that, for loans or securities
originated or purchased before October 1, 2012, an institution may use
either the definition in the February rule or continue to use its
existing internal methodology for identifying loans and securities as
leveraged or subprime for Schedule RC-O assessment reporting purposes.
Institutions that do not have an existing methodology in place to
identify loans and securities as leveraged or subprime
[[Page 18118]]
(because they are not required to report these exposures to their
primary federal regulator for examination or other supervisory purposes
or do not measure and monitor loans and securities with these
characteristics for internal risk management purposes) may continue to
apply existing guidance provided by their primary federal regulator, by
the agencies' 2001 Expanded Guidance for Subprime Lending Programs,
(for consumer loans and securities) or by the February 2008
Comptroller's Handbook on Leveraged Lending (for C&I loans and
securities).
Rules in Effect on the Effective Date and Thereafter
Effective October 1, 2012, the proposed definitions described above
would apply to:
(1) All C&I loans and securities originated or purchased on or
after October 1, 2012;
(2) All consumer loans and securities, except securitizations of
consumer loans and securities, whenever originated or purchased;
(3) All residential real estate loans and securities, except
securitizations of residential real estate loans, whenever originated
or purchased; and
(4) All securitizations of C&I, consumer, and residential real
estate loans originated or purchased on or after October 1, 2012.
For consumer and residential real estate loans and securities
(other than securitizations) originated or purchased prior to October
1, 2012, an institution would have to determine whether the loan or
security met the definition of a higher-risk consumer loan or security
no later than December 31, 2012, using information as of the date of
the origination of the loan or security if the institution had that
information.\37\ If the institution did not have that information, it
would have to use refreshed data to determine whether a loan or
security met the definition. Refreshed data would be defined as the
most recent data available as if the loan or security were being
originated in the fourth quarter of 2012. In all instances, the
refreshed data used would have to be as of July 1, 2012 or later.
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\37\ Institutions had to determine whether loans and securities
originated or purchased prior to October 1, 2012, met the definition
of a construction and land development loan or a nontraditional
mortgage loan in time to file accurate reports of condition as of
June 30, 2012, and September 30, 2012.
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For C&I loans and securities originated or purchased before October
1, 2012, and all securitizations originated or purchased before October
1, 2012, institutions would be required to either continue to use their
existing internal methodology or existing guidance provided by their
primary federal regulator or use the proposed definitions to determine
whether to include the loan, security or securitization as a
concentration in a risk area for purposes of the higher-risk assets to
Tier 1 capital and reserves ratio.
III. Request for Comments
The FDIC seeks comment on every aspect of this proposed rule. In
particular, the FDIC seeks comment on the questions set out below. The
FDIC asks commenters to include specific reasons for their positions.
1. Deposit Insurance Pricing Definitions
a. Is the collateral test in the higher-risk C&I loans and
securities definition appropriately specified?
b. Is the purpose test in the higher-risk C&I loans and securities
definition appropriately specified?
c. Can institutions identify and report C&I loans as higher-risk?
d. Is the definition of material appropriate?
e. Should other risk measures, besides PD, be considered to define
higher-risk consumer loans and securities?
f. Can institutions report all of their consumer loans into the
proposed products and PD bands?
g. Is the proposed PD level of 20 appropriate to identify higher-
risk consumer loans?
h. Is the definition of refinance appropriate?
i. Are all definitions clear and are institutions able to implement
the definitions as proposed?
2. Regulatory Matters
a. What are the costs and what is the extent of regulatory burden
of the proposal compared to the February rule?
b. Will the new effective date for the transition guidance (October
1, 2012) allow institutions sufficient time to update systems to
accurately identify and report higher-risk assets as defined in the
proposed definitions? If not, what date should the transition guidance
be extended to?
c. Are the requirements in the proposed regulation clearly stated?
If not, how could the regulation be more clearly stated?
d. Does the proposed regulation contain language that is not clear?
If so, which language requires clarification?
e. Large institutions and highly-complex institutions would be
required to define their higher-risk assets as outlined in Appendix C.
Is the direction and language used in Appendix C clear?
IV. Regulatory Analysis and Procedure
A. Solicitation of Comments on Use of Plain Language
Section 722 of the Gramm-Leach-Bliley Act, Public Law 106-102, 113
Stat. 1338, 1471 (Nov. 12, 1999), requires the federal banking agencies
to use plain language in all proposed and final rules published after
January 1, 2000. The FDIC invites your comments on how to make this
proposal easier to understand. For example:
Are the requirements in the proposed regulation clearly
stated? If not, how could the regulation be more clearly stated?
Does the proposed regulation contain language or jargon
that is not clear? If so, which language requires clarification?
Would a different format (grouping and order of sections,
use of headings, paragraphing) make the regulation easier to
understand? If so, what changes to the format would make the regulation
easier to understand?
What else could the FDIC do to make the regulation easier
to understand?
B. Regulatory Flexibility Act
The Regulatory Flexibility Act (RFA) requires that each federal
agency either certify that a proposed rule would not, if adopted in
final form, have a significant economic impact on a substantial number
of small entities or prepare an initial regulatory flexibility analysis
of the rule and publish the analysis for comment.\38\ For RFA purposes
a small institution is defined as one with $175 million or less in
assets.
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\38\ See 5 U.S.C. 603, 604 and 605.
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As of September 30, 2011, of the 7,436 insured commercial banks and
savings associations, there were 3,989 small insured depository
institutions, as that term is defined for purposes of the RFA. The
proposed rule, however, would apply only to institutions with $10
billion or greater in total assets. Consequently, small institutions
for purposes of the RFA will experience no significant economic impact
should the FDIC implement the proposal in a final rule.
C. Paperwork Reduction Act
No collections of information pursuant to the Paperwork Reduction
Act of 1995, 44 U.S.C. 3501-3521 (PRA), are contained in the proposed
rule.
[[Page 18119]]
D. The Treasury and General Government Appropriations Act, 1999--
Assessment of Federal Regulations and Policies on Families
The FDIC has determined that the proposed rule will not affect
family well-being within the meaning of section 654 of the Treasury and
General Government Appropriations Act, enacted as part of the Omnibus
Consolidated and Emergency Supplemental Appropriations Act of 1999
(Pub. L. 105-277, 112 Stat. 2681).
List of Subjects in 12 CFR Part 327
Bank deposit insurance, Banks, Savings associations.
For the reasons set forth above, the FDIC proposes to amend 12 CFR
part 327 as follows:
PART 327--ASSESSMENTS
1. The authority citation for part 327 continues to read as
follows:
Authority: 12 U.S.C. 1441, 1813, 1815, 1817-19, 1821.
2. Revise appendix C to subpart A of part 327 to read as follows:
Appendix C to Subpart A to Part 327--Concentration Measures
The concentration score for large institutions is the higher of
the higher-risk assets to Tier 1 capital and reserves score or the
growth-adjusted portfolio concentrations score. The concentration
score for highly complex institutions is the highest of the higher-
risk assets to Tier 1 capital and reserves score, the Top 20
counterparty exposure to Tier 1 capital and reserves score, or the
largest counterparty to Tier 1 capital and reserves score. The
higher-risk assets to Tier 1 capital and reserves ratio and the
growth-adjusted portfolio concentration measure are described below.
A. Higher-Risk Assets/Tier 1 Capital and Reserves
The higher-risk assets to Tier 1 capital and reserves ratio is
the sum of the concentrations in each of four risk areas described
below and is calculated as:
[GRAPHIC] [TIFF OMITTED] TP27MR12.120
Where:
Hi is institution i's higher-risk concentration measure and k is
a risk area.\1\ The four risk areas (k) are construction and land
development loans, higher-risk commercial and industrial (C&I) loans
and securities, higher-risk consumer loans and securities, and
nontraditional mortgage loans.
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\1\ The higher-risk concentration ratio is rounded to two
decimal points.
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1. Construction and land development loans include construction
and land development loans outstanding and unfunded commitments to
fund construction and land development loans, whether revocable or
irrevocable.\2\
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\2\ Construction and land development loans are as defined in
the instructions to Call Report schedule RC-C Part I--Loans and
Leases, as they may be amended from time to time, and include items
reported on line items RC-C 1.a.1 (1-4 family residential
construction loans), RC-C 1.a.2. (Other construction loans and all
land development and other land loans), and RC-O M.10.a (Total
unfunded commitments to fund construction, land development, and
other land loans secured by real estate), and exclude RC-O M.10.b
(Portion of unfunded commitments to fund construction, land
development and other loans that are guaranteed or insured by the
U.S. government, including the FDIC), RC-O M.13.a (Portion of funded
construction, land development, and other land loans guaranteed or
insured by the U.S. government, excluding FDIC loss sharing
agreements), RC-M 13a.1.a.1 (1-4 family construction and land
development loans covered by loss sharing agreements with the FDIC),
and RC-M 13a.1.a.2 (Other construction loans and all land
development loans covered by loss sharing agreements with the FDIC).
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2. Higher-risk commercial and industrial (C&I) loans and
securities include:
Any commercial loan (funded or unfunded, including
irrevocable and revocable commitments) owed by a borrower to the
evaluating depository institution with an original amount greater
than $5 million if the conditions specified in (a) or (b) below are
met as of origination, or, if the loan has been refinanced, as of
refinance, and the loan does not meet the asset based lending (ABL)
exclusion or the floor plan line of credit exclusion (defined
below).3 4
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\3\ Commercial loans are as defined as commercial and industrial
loans in the instructions to Call Report Schedule RC-C Part I--Loans
and Leases, as they may be amended from time to time. An overdraft
is a higher-risk C&I loan or security, provided the overdraft is
extended to a company and not an individual and it otherwise meets
the Call Report definition of a C&I loan.
\4\ Unfunded commitments are defined as unused commitments, as
this term is defined in the instructions to Call Report Schedule RC-
L, Derivatives and Off-Balance Sheet Items, as they may be amended
from time to time.
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(a)(i) The purpose of any of the borrower's debt \5\ (whether
owed to the evaluating insured depository institution or another
lender) that was incurred within the previous seven years was to
finance a buyout (e.g., to fund an equity buyout or fund an Employee
Stock Ownership Plan (ESOP)), acquisition (e.g., merger or tender
offer), or capital distribution (e.g., dividends, stock repurchase,
or cash-out) and such debt was material as defined below; and
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\5\ As used in this definition of higher-risk C&I loans and
securities, debt includes all forms of obligation and liability,
including loans and securities.
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(ii) The ratio of the borrower's total debt to trailing twelve-
month EBITDA (i.e., operating leverage ratio) is greater than 4 or
the ratio of the borrower's senior debt to trailing twelve-month
EBITDA (i.e., operating leverage ratio) is greater than 3; or
(b) Any of the borrower's debt (whether owed to the evaluating
institution or another lender) is designated as a highly leveraged
transaction (HLT) by a syndication agent.
All securities held by the evaluating institution that
are issued by a commercial borrower, if the conditions specified in
(a) or (b) above are met, except securities classified as trading
book; and
All securitizations held by the evaluating institution
that are more than 50 percent collateralized by commercial loans or
securities that would meet the foregoing higher-risk C&I loans and
securities definition if directly held by the evaluating
institution, except securities classified as trading book.\6\
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\6\ A securitization is defined in Appendix A, Section II(B)(16)
of Part 325 of the FDIC's Rules and Regulations, as it may be
amended from time to time.
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Institutions must determine whether C&I loans and securities
meet the definition of a higher-risk C&I loan and security as of
origination, or, if the loan has been refinanced, as of refinance,
as discussed in Section A of this Appendix. When an institution
acquires a C&I loan or security, it must determine whether the loan
or security meets the definition of a higher-risk C&I loan or
security using the origination criteria and analysis performed by
the original lender. If this information is unavailable, the
institution must obtain refreshed data from the borrower or other
appropriate third-party. Refreshed data for C&I loans and securities
is defined as the most recent data available. However, the data must
be as of a date that is no earlier than one year before the
acquisition of the C&I loan or security. The acquiring institution
must also determine whether an acquired loan or securitization is
higher risk as soon as reasonably practicable, but not later than
one year after acquisition.
However, when an institution acquires loans or securities from
another entity on a recurring or programmatic basis, the acquiring
institution may determine whether the loan or security meets the
definition of a higher-risk C&I loan or security using the
origination criteria and analysis performed by the original lender
only if the acquiring institution verifies the information
provided.\7\ Otherwise, the acquiring institution must obtain the
necessary information from the borrower or other appropriate third
party to make its own
[[Page 18120]]
determination of whether the acquired assets should be classified as
a higher-risk C&I loan and security. If the financial information is
not available as of the origination date or refinance, the
institution must obtain refreshed data from the borrower or other
appropriate third-party. Refreshed data for C&I loans or securities
acquired on a recurring or programmatic basis is defined as the most
recent data available, and in any case, the refreshed data used must
be as of a date that is no earlier than three months before the
acquisition of the C&I loan or security. The acquiring institution
must also determine whether a loan or securitization acquired on a
recurring or programmatic basis is higher risk as soon as is
practicable, but not later than three months after the date of
acquisition.
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\7\ Loans or securities acquired from another entity are
acquired on a recurring basis if an institution has acquired other
loans or securities from that entity at least once within the
calendar year or the previous calendar year of the acquisition of
the loans or securities in question.
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Higher-risk C&I loans and securities include purchased credit
impaired loans that meet the definition of higher-risk C&I loans and
exclude the following:
Residential, commercial or farmland loans secured by
real estate;
Loans to finance agricultural production;
Loans to equity REITS;
Lease financing receivables;
Loans to individuals for commercial, industrial, or
professional purposes;
Loans to foreign governments and official institutions;
Obligations of states and political subdivisions of the
U.S.;
Loans to depository and nondepository financial
institutions;
The maximum amount of any loan that is recoverable from
the U.S. government, its agencies, or government-sponsored agencies
under guarantee or insurance provisions;
Loans that are fully secured by cash collateral,
provided that the cash is in the form of a savings or time deposit
held by the insured depository institution, the insured depository
institution has in place a collateral assignment of the deposit
account signed by the borrower, the assignment is irrevocable as
long as the loan or commitment is outstanding, and a hold is placed
on the deposit account that alerts the institution's employees to an
attempted withdrawal; in the case of a revolving line of credit, the
cash collateral must be equal to or greater than the amount of the
total loan commitment (the aggregate funded and unfunded balance of
the loan);
C&I loans that are secured by liquid assets other than cash are not
excluded from the higher-risk loan designation.
An institution must use the information reasonably available to
a sophisticated investor in reasonably determining whether a
securitization meets the 50 percent threshold. Information
reasonably available to a sophisticated investor includes, but is
not limited to, offering memorandums, indentures, trustee reports,
and requests for information from servicers, collateral managers,
issuers, trustees, or similar third parties. When determining
whether a revolving trust or similar securitization meets the 50
percent threshold, an institution may use established criteria,
model portfolios, or limitations published in the offering
memorandum, indenture, trustee report or similar documents.
Sufficient information necessary for an institution to make a
definitive determination may not, in every case, be reasonably
available to the institution as a sophisticated investor. In such a
case, the institution may exercise judgment in making its
determination. Generally, the FDIC may review and audit for
compliance all determinations made by insured depository
institutions for assessment purposes, including a determination that
a securitization does not meet the 50 percent threshold.
In cases where a securitization is required to be consolidated
on the balance sheet as a result of SFAS 166 and SFAS 167, and a
large institution or highly complex institution has access to the
necessary information, an institution may evaluate individual loans
in the securitization on a loan-by-loan basis. Any loan within the
securitization that meets the definition of a higher-risk asset must
be reported as a higher-risk asset and any loan within the
securitization that does not meet the definition of a higher-risk
asset need not be reported as such. When making this evaluation, the
institution must follow the transition guidance described in
Appendix C, Section C. Once an institution evaluates a
securitization for higher-risk asset designation on a loan-by-loan
basis, it must continue to evaluate all securitizations for which it
has the required information in a similar manner (i.e., on a loan-
by-loan basis). For securitizations for which the institution does
not have access to information on a loan-by-loan basis, the
institution must determine whether the securitization meets the 50
percent threshold.
Definition of Terms Used Within the Definition of Higher-Risk C&I Loans
and Securities
An acquisition means the purchase by the borrower of any equity
interest in another company or the purchase of any of the assets and
liabilities of another company.
A buyout means the issuance of debt to finance the purchase or
repurchase by the borrower of the borrower's outstanding equity. A
buyout could include, but is not limited to, an equity buyout or
funding of an ESOP.
A capital distribution means that the borrower incurs debt to
finance a dividend payment or to finance other transactions designed
to enhance shareholder value, such as repurchase of stock.
For purposes of the definition of a higher-risk C&I loan and
security, a debt is material if it results in a 20 percent or
greater increase any time within 12 months in the total funded debt
of the borrower (including all funded debt assumed, created or
refinanced). Debt is also material if, before the debt was incurred,
the borrower had no funded debt.
When calculating either of the borrower's operating leverage
ratios, the only permitted EBITDA adjustments are those specifically
permitted for that borrower at the time of underwriting and only
funded amounts of lines of credit must be considered debt.
The debt-to-EBITDA ratio must be calculated using the
consolidated financial statements of the borrower unless the loan is
to a subsidiary of a larger organization. In that case, the ratio
may be calculated using consolidated financial statements of the
parent company provided that the parent company and all of its major
operating subsidiaries have unconditionally and irrevocably
guaranteed the borrower's debt to the reporting large institution or
highly complex institution.
In the case of a merger of two companies or the acquisition of
one or more companies or parts of companies, the pro-forma debt is
to be used as well as the trailing twelve-month pro-forma EBITDA for
the combined companies. When calculating the trailing pro-forma
EBITDA for the combined company, no adjustments are allowed for
economies of scale or projected cost savings that may be realized
subsequent to the acquisition unless specifically permitted for that
borrower under the loan agreement.
The original amount of the loan is defined as:
(1) For loans drawn down under lines of credit or loan
commitments, the amount of the line of credit or loan commitment on
the date of its most recent approval, extension or renewal prior to
the date of the most recent Call Report. If the amount currently
outstanding as of the date of the most recent Call Report exceeds
this amount, then the original amount is the amount outstanding as
of the Call Report date.
(2) For loan participations and syndications, the original
amount of the loan participation or syndication is the total amount
of the credit originated by the lead lender.
(3) For all other loans, the original amount is the total amount
of the loan as of origination or the amount outstanding as of the
Call Report date, whichever is larger.
Multiple loans to one borrower are to be aggregated to the
extent that the institution's loan data systems can do so without
undue cost. If the cost is excessive, the institution may treat
multiple loans to one borrower as separate loans.
The purpose of the borrower's debt for purposes of meeting the
definition of higher-risk C&I loans is determined at the time the
debt was incurred by the borrower.
A securitization is as defined in Appendix A, Section II(B)(16)
of Part 325 of the FDIC's Rules and Regulations, as it may be
amended from time to time.
Senior debt includes any portion of total debt that has a
priority claim on any of the borrower's assets. A priority claim is
a claim that entitles the holder to priority of payment over other
debt holders in bankruptcy.
Total debt is defined as all interest-bearing financial
obligations and includes, but is not limited to, overdrafts,
borrowings, repurchase agreements (repos), trust receipts, bankers
acceptances, debentures, bonds, loans (including those secured by
mortgages), sinking funds, capital (finance) lease obligations
(including those obligations that are convertible, redeemable or
retractable), mandatory redeemable preferred and trust preferred
securities accounted for as liabilities in accordance with ASC
Subtopic 480-10, Distinguishing Liabilities from Equity--Overall
(formerly FASB Statement No. 150, ``Accounting for Certain Financial
Instruments with Characteristics of both
[[Page 18121]]
Liabilities and Equity''), and subordinated capital notes. Total
debt excludes pension obligations, deferred tax liabilities and
preferred equity.
Asset-Based Lending Exclusion
Asset-based loans that meet certain conditions are excluded from
an institution's higher-risk C&I loan totals. An excluded asset-
based loan is defined as any loan, new or existing, in which all of
the following conditions are present:
The loan is managed by a lender or group of lenders
with experience in asset-based lending and collateral monitoring,
including, but not limited to, experience in reviewing the
following: Collateral reports, borrowing base certificates,\8\
collateral audit reports, loan to collateral values, and loan
limits, using procedures common to the industry.\9\
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\8\ Borrowing base certificates are defined in Appendix C,
Section D.
\9\ Guidelines that address acceptable industry-standard
controls over asset based lending are included in Appendix C,
Section D. Loans must adhere to these guidelines to be eligible for
the ABL exclusion.
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The insured depository institution has taken, or has
the legally enforceable unconditional ability to take, dominion of
cash through account control agreements over the borrower's
depository accounts such that proceeds of collateral are applied to
the loan balance as collected.
The insured depository institution has a perfected
first priority security interest in all assets included in the
borrowing base certificate.
If the loan is a credit facility (revolving or term
loan), it must be fully secured by self-liquidating assets such as
accounts receivable and inventory.\10\ Fully secured is defined as a
100 percent or lower loan-to-value ratio after applying the
appropriate discounts (determined by the loan agreement) to the
collateral. For purposes of calculating the ratio, a revolving loan
amount is the amount of the loan if fully drawn to the maximum
permitted borrowing base.
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\10\ An asset is self-liquidating if, in the event the borrower
defaults, the asset can be easily liquidated and the proceeds of the
sale of the assets would be used to pay down the loan. These assets
can include machinery, heavy equipment or rental equipment if the
machinery or equipment is inventory for the borrower's primary
business and the machinery or equipment is included in the borrowing
base.
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Advance rates on accounts receivable should generally
not exceed 75 percent to 85 percent of eligible receivables and 65
percent of eligible inventory and the bank's lending policy should
address maintenance of an accounts receivable and inventory loan
agreement that includes the items detailed in the Accounts
Receivable and Automobile Dealer Floor Plan Lending Guidance
included in Section D of this Appendix.
Assets must be valued or appraised by an independent
third-party appraiser using net orderly liquidation value (NOLV),
fair value, or forced sale value (versus a ``going concern'' value),
whichever is appropriate, to arrive at a net realizable value.
Appraisals are to be prepared in accordance with industry standards.
The insured depository institution must maintain
documentation of borrowing base certificate reviews and collateral
trend analyses to demonstrate that collateral values are actively,
routinely and consistently monitored. A new borrowing base
certificate is required at each draw or advance on the loan. At the
time of each draw the insured depository institution must validate
the assets that compose the borrowing base certificate (by
requesting from the borrower a listing of accounts receivable by
creditor and a listing of individual pieces of inventory) and
certify that the outstanding balance of the loan remains within the
collateral formula prescribed by the loan agreement. Borrowing base
reporting must be performed and validated (through asset-based
tracking reports) at least on a monthly basis and supplemented by
periodic, but no less than annual, field examinations (audits) to be
performed by individuals who are independent of the credit
origination or administration process. There must be a process in
place to ensure that the insured depository institution is
correcting audit exceptions.
The FDIC retains the authority to verify that institutions are
in compliance with sound internal controls and administration
practices for asset based loans, as discussed in Section D of this
Appendix. Generally, the FDIC may review and audit for compliance
all determinations made by insured depository institutions for
assessment purposes, including the exclusion of an asset based loan
from an institution's reported higher-risk C&I loans and securities
totals.
Floor Plan Lines of Credit Exclusion
Floor plan loans that meet certain conditions are excluded from
an institution's higher-risk loan totals. An excluded automotive
dealer floor plan loan is defined as any loan, new or existing, used
to finance the purchase of automobile inventory by an automotive
dealer in which all of the following conditions are present:
The loan is managed by a lender or group of lenders
experienced in automobile dealer floor plan lending and monitoring
collateral to ensure the borrower remains in compliance with floor
plan limits and repayment requirements. Lenders should have
experience in reviewing certain items, including but not limited to:
Collateral reports, floor plan limits, floor plan aging reports,
automobile inventory audits or inspections, and loan-to-collateral
value (LTV) ratios. The insured depository institution must obtain
and review audited financial statements of the borrower on an annual
basis to ensure that adequate controls are in place.\11\
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\11\ Additional guidelines covering acceptable industry-standard
controls over automobile dealer floor plan lending are included in
Appendix C, Section D. Loans must also adhere to these guidelines to
be eligible for the floor plan line of credit exclusion.
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Each loan advance is made against a specific automobile
or under a borrowing base certificate held as collateral at no more
than 100 percent of (i) dealer invoice plus freight charges (for new
vehicles) or (ii) the cost of a used vehicle at auction or the
wholesale value (using the prevailing market guide, e.g., NADA,
Black Book, Blue Book). Permissible advance rates depend upon the
types of risk mitigation systems the insured depository institution
has in place for a particular credit facility. The advance rate of
100 percent of dealer invoice plus freight charges on new vehicles
and the advance rate of the cost of a used vehicle at auction or the
wholesale value may only be used where there is a manufacturer
repurchase agreement or an aggressive curtailment program in place
that is tracked by the institution over time and subject to strict
controls.
Each loan is self liquidating (i.e., if the borrower
defaulted on the loan, the collateral could be easily liquidated and
the proceeds of the sale of the collateral would be used to pay down
the loan advance).
Vehicle inventories and collateral values are closely
monitored, including the completion of regular (at least quarterly)
dealership automotive inventory audits or inspections to ensure
accurate accounting for all vehicles held as collateral. Floor plan
aging reports must be reviewed by the institution. Curtailment
programs should be instituted where necessary and institutions must
ensure that curtailment payments are made on stale automotive
vehicle inventory financed under the floor plan loan.\12\
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\12\ Curtailment programs ensure that the lender receives
regular principal payments on floor plan loans in situations where
the underlying collateral is not selling as quickly as expected.
Under such programs, when vehicles that serve as collateral on a
floor plan loan do not sell within a reasonable and specific
timeframe, the borrower is required to begin repaying the lender a
certain dollar amount (to be determined by the loan agreement) on a
monthly or quarterly basis.
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The FDIC retains the authority to verify that institutions are
in compliance with sound internal controls and administration
practices for floor plan loans, as discussed in Section D of this
Appendix. Generally, the FDIC may review and audit for compliance
all determinations made by insured depository institutions for
assessment purposes, including the exclusion of a floor plan loan
from an institution's reported higher-risk C&I loans and securities
totals.
3. Higher-risk consumer loans and securities are defined as:
(a) All consumer loans where, as of origination, or, if the loan
has been refinanced, as of refinance, the probability of default
(PD) within two years (the two-year PD) was greater than 20 percent,
excluding those consumer loans that meet the definition of a
nontraditional mortgage loan; and
(b) all securitizations that are more than 50 percent
collateralized by consumer loans meeting the criteria in (a), except
those classified as trading book.\13\
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\13\ A securitization is defined in Appendix A, Section
II(B)(16) of Part 325 of the FDIC's Rules and Regulations, as it may
be amended from time to time.
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Institutions must determine whether consumer loans meet the
definition of a higher-risk consumer loan as of origination, or, if
the loan has been refinanced, as of refinance, as discussed in
Section A of this Appendix. The two-year PD must be
[[Page 18122]]
estimated using an approach that conforms to the requirements
detailed below. When an institution acquires a consumer loan or
security, it must determine whether the loan or security meets the
definition of a higher-risk consumer loan or security using the
origination criteria and analysis performed by the original lender.
If this information is unavailable, the institution must obtain
refreshed data from the borrower or other appropriate third-party.
Refreshed data for consumer loans and securities is defined as the
most recent data available. However, the data must be as of a date
that is no earlier than three months before the acquisition of the
consumer loan or security. The acquiring institution must also
determine whether an acquired loan or securitization is higher risk
as soon as reasonably practicable, but not later than three months
after acquisition.
However, when an institution acquires loans or securities from
another entity on a recurring or programmatic basis, the acquiring
institution may determine whether the loan or security meets the
definition of a higher-risk consumer loan or security using the
origination criteria and analysis performed by the original lender
only if the acquiring institution verifies the information
provided.\14\ Otherwise, the acquiring institution must obtain the
necessary information from the borrower or other appropriate third
party to make its own determination of whether the purchased assets
should be classified as a higher-risk consumer loan and security. If
the financial information is not available as of the origination
date or refinance, the institution must obtain refreshed data from
the borrower or other appropriate third-party. Refreshed data for
consumer loans or securities acquired on a recurring or programmatic
basis is defined as the most recent data available, and in any case,
the refreshed data used must be as of a date that is no earlier than
three months before the acquisition of the consumer loan or
security. The acquiring institution must also determine whether a
loan or securitization acquired on a recurring or programmatic basis
is higher risk as soon as is practicable, but not later than three
months after the date of acquisition.
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\14\ Loans or securities acquired from another entity are
acquired on a recurring basis if an institution has acquired other
loans or securities from that entity at least once within the
calendar year of the acquisition of the loans or securities in
question or the previous calendar year.
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Higher-risk consumer loans include purchased credit-impaired
loans that meet the definition of higher-risk consumer loans and
exclude the maximum amounts recoverable from the U.S. government,
its agencies, or government-sponsored agencies under guarantee or
insurance provisions, and loans that are fully secured by cash
collateral, provided that the cash collateral is in the form of a
savings or time deposit held by the insured depository institution.
In the case of a revolving line of credit, the cash collateral must
be equal to or greater than the amount of the total loan commitment
(the aggregate funded and unfunded balance of the loan). Loans that
are fully secured by savings and time deposits are not higher-risk
consumer loans, provided that the insured depository institution has
in place a collateral assignment of the deposit account signed by
the borrower, the assignment is irrevocable as long as the term or
commitment is outstanding, and a hold is placed on the deposit
account that alerts the institution's employees to an attempted
withdrawal. Consumer loans that are secured by liquid assets other
than cash are not excluded from the higher-risk consumer loan
definition.
A loan that meets both the nontraditional mortgage loan and
higher-risk consumer loan and security definitions at the time of
origination, or, if the loan has been refinanced, as of refinance,
must be reported only as a nontraditional mortgage loan. However, if
the loan ceases to meet the nontraditional mortgage loan definition
but continues to meet the definition of a higher-risk consumer loan
and security, the loan is to be reported as a higher-risk consumer
loan and security.
An institution must use the information that is reasonably
available to a sophisticated investor in reasonably determining
whether a securitization meets the 50 percent threshold. Information
reasonably available to a sophisticated investor includes, but is
not limited to, offering memorandums, indentures, trustee reports,
and requests for information from servicers, collateral managers,
issuers, trustees, or similar third parties. When determining
whether a revolving trust or similar securitization meets the
threshold, an institution may use established criteria, model
portfolios, or limitations published in the offering memorandum,
indenture, trustee report or similar documents.
Sufficient information necessary for an institution to make a
definitive determination may not, in every case, be reasonably
available to the institution as a sophisticated investor, and, in
such a case, the institution may exercise judgment in making its
determination. Generally, the FDIC may review and audit for
compliance all determinations made by insured depository
institutions for assessment purposes, including a determination that
a securitization does not meet the 50 percent threshold.
In cases where a securitization is required to be consolidated
on the balance sheet as a result of SFAS 166 and SFAS 167, and a
large institution or a highly complex institution has access to the
necessary information, an institution may evaluate individual loans
in the securitization on a loan-by-loan basis. Any loan within the
securitization that meets the definition of a higher-risk asset must
be reported as a higher-risk asset and any loan within the
securitization that does not meet the definition of a higher-risk
asset need not be reported as such. When making this evaluation, the
institution must follow the transition guidance described in
Appendix C, Section C. Once an institution evaluates a
securitization for higher-risk asset designation on a loan-by-loan
basis, it must continue to evaluate all securitizations for which it
has the required information in a similar manner (i.e., on a loan-
by-loan basis). For securitizations for which the institution does
not have access to information on a loan-by-loan basis, the
institution must determine whether the securitization meets the 50
percent threshold.
Requirements for PD Estimation
Estimates of the two-year PD for a loan must be based on the
observed, stress period default rate for loans of a similar product
type made to consumers with credit risk comparable to the borrower
being evaluated. The credit risk assessment must be determined using
third party or internal scores derived using a scoring system that
qualifies as empirically derived, demonstrably and statistically
sound as defined in 12 CFR 202.2(p)(2011), and has been approved by
the bank's model risk oversight and governance process and internal
audit mechanism. In the case of a consumer loan with a co-signer or
co-borrower, the PD may be determined using the most favorable
individual credit score. In estimating the PD based on such scores,
institutions must adhere to the following requirements:
(1) The PD must be estimated as the average of the two, 24-month
default rates observed from July 2007 to June 2009, and July 2009 to
June 2011, where the average is calculated according to the
following formula and DRt is the observed default rate
over the 24-month period beginning in July of year t:
[GRAPHIC] [TIFF OMITTED] TP27MR12.121
(2) The default rate for each 24-month period must be calculated
as the number of active loans that experienced at least one default
event during the period divided by the total number of active loans
as of the observation date (i.e., the beginning of the period). A
loan is considered active if it was open and not in default as of
the observation date and had a positive balance any time within the
12 months prior to the observation date.
(3) The default rate for each 24-month period must be calculated
using a stratified random sample of loans that is sufficient in size
to derive statistically meaningful results for the product type and
credit score being evaluated. The product strata must be as
homogenous as possible with respect to the factors that influence
default, such that products with distinct risk characteristics are
evaluated separately. The loans should be sampled based on the
credit score as of the observation date and, for any single product
and credit score group, the sample size must be no less than 1,200
loans.
Credit score strata must be determined by partitioning the score
range into a minimum of 15 bands. While the width of the credit
score bands may vary, the scores within each band must reflect a
comparable level of credit risk. However, since performance data for
scores at the upper and lower extremes of the population
distribution is likely to be limited, the top and bottom bands may
include a range of scores that suggest some variance in credit
quality.
When the number of score bands is less than the number of credit
scores represented in the population, an observed default rate for
some scores will not be available. In that case, institutions must
estimate the default rate for a particular score using a linear
[[Page 18123]]
interpolation between adjacent, observed default rates, where the
observed default rate is assumed to correspond with the score at the
midpoint of the range for the band. For example, if one score band
ranges from 621 to 625 and has an observed default rate of 4
percent, while the next lowest band ranges from 616 to 620 and has
an observed default rate of 6 percent, a 620 score must be assigned
a default rate of 5.2 percent, calculated as
[GRAPHIC] [TIFF OMITTED] TP27MR12.122
When evaluating scores that fall below the midpoint of the
lowest score band or above the midpoint of the highest score band,
the interpolation must be based on an assumed adjacent default rate
of 1 or 0, respectively.
An institution may use internally derived default rates that
were calculated using fewer observations or score bands than those
specified above under certain conditions. The institution must
submit a written request to the FDIC in advance of or concurrent
with reporting under that methodology. The request must explain in
detail how the proposed approach differs from the rule
specifications and the institution must provide support for the
statistical appropriateness of the proposed methodology. The request
must include, at a minimum, a table with the default rates and
number of observations used in each score and product segment. The
FDIC will evaluate the proposed methodology and may request
additional information from the institution, which the institution
must provide. The institution may report using its proposed approach
while the FDIC evaluates the methodology. If, after reviewing the
request, the FDIC determines that the institution's methodology is
unacceptable, the institution will be required to amend its Call
Reports and resubmit higher-risk consumer loan amounts according to
the FDIC's requirements for PD estimation. The institution will be
required to submit corrected information for no more than the two
most recently dated and filed Call Reports preceding the FDIC's
determination and for any Call Reports after the determination.
(4) The credit scores represented in the historical sample must
have been produced by the same entity, using the same or
substantially similar methodology as the methodology used to derive
the credit scores to which the default rates will be applied. For
example, the default rate for a particular vendor score cannot be
evaluated based on the score-to-default rate relationship for a
different vendor, even if the range of scores under both systems is
the same. On the other hand, if the current and historical scores
were produced by the same vendor using slightly different versions
of the same scoring system and equivalent scores represent a similar
likelihood of default, then the historical experience could be
applied.
(5) A loan is considered to be in default when it is 90+ days
past due, charged-off, or the consumer enters bankruptcy during the
24-month performance window.
The FDIC has the flexibility, as part of its risk-based
assessment system, to modify the time periods used for PD estimation
without further notice-and-comment rulemaking. The FDIC also has the
authority, as part of the risk-based assessment system, to increase
or decrease the PD threshold of 20 percent, for identifying higher-
risk consumer loans to reflect the updated consumer default data
from the different time periods selected without further notice-and-
comment rulemaking. Before changing the PD threshold, the FDIC will
analyze resulting potential changes in the distribution of higher-
risk consumer loans and the resulting effect on total deposit
insurance assessments and risk differentiation among institutions.
The FDIC will provide institutions with at least one quarter advance
notice with their quarterly deposit insurance invoice of any changes
to the PD estimation time periods or the PD threshold.
4. Nontraditional mortgage loans include all residential loan
products that allow the borrower to defer repayment of principal or
interest and include all interest-only products, teaser rate
mortgages, and negative amortizing mortgages, with the exception of
home equity lines of credit (HELOCs) or reverse
mortgages.15 16 17
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\15\ A teaser-rate mortgage loan is defined as a mortgage with a
discounted initial rate where the lender offers a lower rate and
lower payments for part of the mortgage term.
\16\ http://www.fdic.gov/regulations/laws/federal/2006/06noticeFINAL.html.
\17\ A mortgage loan is no longer considered a nontraditional
mortgage loan once the teaser rate has expired. An interest only
loan is no longer considered a nontraditional mortgage loan once the
loan begins to amortize.
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For purposes of the higher-risk assets to Tier 1 capital and
reserves ratio, nontraditional mortgage loans include
securitizations where more than 50 percent of the assets backing the
securitization meet the preceding definition of a nontraditional
mortgage loan, with the exception of those securities classified as
trading book.\18\
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\18\ A securitization is defined in Appendix A, Section
II(B)(16) of Part 325 of the FDIC's Rules and Regulations, as it may
be amended from time to time.
---------------------------------------------------------------------------
Institutions must determine whether residential loans and
securities meet the definition of a nontraditional mortgage loan as
of origination, or, if the loan has been refinanced, as of
refinance, as discussed in Section A of this Appendix. When an
institution acquires a residential loan or security, it must
determine whether the loan or security meets the definition of a
nontraditional mortgage loan using the origination criteria and
analysis performed by the original lender. If this information is
unavailable, the institution must obtain refreshed data from the
borrower or other appropriate third-party. Refreshed data for
residential loans and securities is defined as the most recent data
available. However, the data must be as of a date that is no earlier
than three months before the acquisition of the residential loan or
security. The acquiring institution must also determine whether an
acquired loan or securitization is higher-risk not later than three
months after acquisition.
However, when an institution acquires loans or securities from
another entity on a recurring or programmatic basis, the acquiring
institution may determine whether the loan or security meets the
definition of a nontraditional mortgage loan using the origination
criteria and analysis performed by the original lender only if the
acquiring institution verifies the information provided.\19\
Otherwise, the acquiring institution must obtain the necessary
information from the borrower or other appropriate third party to
make its own determination of whether the acquired assets should be
classified as a nontraditional mortgage loan. If the financial
information is not available as of the origination date or
refinance, the institution must obtain refreshed data from the
borrower or other appropriate third-party. Refreshed data for
residential loans or securities acquired on a recurring or
programmatic basis is defined as the most recent data available, and
in any case, the refreshed data used must be as of a date that is no
earlier than three months before the acquisition of the residential
loan or security. The acquiring institution must also determine
whether a loan or securitization acquired on a recurring or
programmatic basis is higher-risk not later than three months after
the date of acquisition.
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\19\ Loans or securities acquired from another entity are
acquired on a recurring basis if an institution has acquired other
loans or securities from that entity at least once within the
calendar year or the previous calendar year of the acquisition of
the loans or securities in question.
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An institution is required to use the information that is
reasonably available to a sophisticated investor in reasonably
determining whether a securitization meets the 50 percent threshold.
Information reasonably available to a sophisticated investor
includes, but is not limited to, offering memorandums, indentures,
trustee reports, and requests for information from servicers,
collateral managers, issuers, trustees, or similar third parties.
When determining whether a revolving trust or similar securitization
meets the threshold, an institution may use established criteria,
model portfolios, or limitations published in the offering
memorandum, indenture, trustee report or similar documents.
Sufficient information necessary for an institution to make a
definitive determination may not, in every case, be reasonably
available to the institution as a sophisticated investor. In such a
case, the institution may exercise judgment in making its
determination. Generally, the FDIC may review and audit for
compliance all determinations made by insured depository
institutions for assessment purposes, including a determination that
a securitization does not meet the 50 percent threshold.
In cases where a securitization is required to be consolidated
on the balance sheet as a result of SFAS 166 and SFAS 167, and a
large institution or highly complex institution has access to the
necessary information, an institution may evaluate individual loans
in the securitization on a loan-by-loan basis. Any loan within the
securitization that meets the definition of a higher-risk asset must
be reported as a higher-risk asset and any loan
[[Page 18124]]
within the securitization that does not meet the definition of a
higher-risk asset would not be reported as such. When making this
evaluation, the institution must follow the transition guidance
described in Appendix C, Section C. Once an institution evaluates a
securitization for higher-risk asset designation on a loan-by-loan
basis, it must continue to evaluate all securitizations for which it
has the required information in a similar manner (i.e., on a loan-
by-loan basis). For securitizations for which the institution does
not have access to information on a loan-by-loan basis, the
institution must determine whether the securitization meets the 50
percent threshold.
Definition of Refinance/Timing of Classification as a Higher-Risk Asset
1. ``Refinance'' Definition for Consumer Loans
For all consumer loans and securities (including nontraditional
mortgage loans), an institution must determine whether the loan or
security meets the definition of a higher-risk consumer loan or a
nontraditional mortgage loan and must do so as of origination, or,
if the loan has been refinanced, as of refinance.
A refinance for this purpose is an extension of new credit or
additional funds on an existing loan or the replacement of an
existing loan by a new or modified obligation. A refinance includes
the consolidation of multiple existing obligations, disbursement of
additional funds to the borrower, an increase or decrease in the
interest rate, or rescheduling of principal or interest payments to
create or increase a balloon payment or extend the legal maturity
date of the loan by more than six months. Additional funds include a
material disbursement of additional funds or, with respect to a line
of credit, a material increase in the amount of the line of credit,
but not a disbursement, draw, or the writing of convenience checks
within the original limits of the line of credit. Except as noted
below for credit cards, a material increase in the amount of the
line of credit is defined as a 10 percent or greater increase in the
quarter-end line of credit limit.
Modifications to a loan that would otherwise meet this
definition of refinance, but result in the classification of a loan
as a troubled debt restructuring (TDR), do not constitute a
refinance.\20\ Any modification made to a consumer loan pursuant to
a government program, for example the Home Affordable Modification
Program or the Home Affordable Refinance Program, is also not
considered a refinance.
---------------------------------------------------------------------------
\20\ Troubled debt restructuring (TDR) is defined as this term
is defined in the glossary of the Call Report instructions, as it
may be amended from time to time.
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An extension of the maturity date of a loan is not, per se, a
refinance. A contractual deferral of payments that is consistent
with the terms of the original loan agreement (for example, as
allowed in some student loans), is not a refinance. For an open-end
or revolving line of credit, an advance of funds consistent with the
terms of the loan agreement is not a refinance. Deferrals under the
Servicemembers Civil Relief Act do not constitute a refinance.
Except as provided above, a modification or series of modifications
to a closed-end consumer loan do not constitute a refinance.
For credit card loans, replacing an existing card because the
original is expiring, for security reasons, or because of a new
technology or a new system does not constitute a refinance.
Reissuing a credit card that has been temporarily suspended (as
opposed to closed) is not a refinance. A non-temporary credit card
credit line increase that is not a result of, or related to, a loss
mitigation strategy is a refinance.
2. ``Refinance'' Definition for Commercial Loans
For all commercial loans and securities, an institution must
determine whether the loan or security meets the definition of a
higher-risk C&I loan and security and must do so as of origination
or, or, if the loan has been refinanced, as of refinance.
A refinance occurs when the original obligation has been
replaced by a new or modified obligation or loan agreement. A
refinance includes an increase in the master commitment of the line
of credit (not including adjustments to sub-limits under the master
commitment), disbursement of additional money other than amounts
already committed to the borrower, extension of the legal maturity
date, rescheduling of principal or interest payments to create or
increase a balloon payment, substantial release of collateral,
consolidation of multiple existing obligations, or an increase or
decrease in the interest rate. A modification or series of
modifications to a commercial loan other than as described in this
paragraph does not constitute a refinance.
Modifications to a commercial loan that would otherwise meet
this definition of refinance, but result in the classification of a
loan as a TDR, do not constitute a refinance. Any modification made
to a consumer loan pursuant to a government program, for example the
``Home Affordable Modification Program or the Home Affordable
Refinance Program, will not be considered a refinance for these
purposes.
B. Updating Scorecard
The FDIC retains the flexibility, as part of the risk-based
assessment system, without the necessity of additional notice-and-
comment rulemaking, to update the minimum and maximum cutoff values
for all measures used in the scorecard. The FDIC may update the
minimum and maximum cutoff values for the higher-risk assets to Tier
1 capital and reserves ratio in order to maintain an approximately
similar distribution of higher-risk assets to Tier 1 capital and
reserves ratio scores as reported prior to the implementation of the
proposed amendments or to avoid changing the overall amount of
assessment revenue collected.\21\ The FDIC will review changes in
the distribution of the higher-risk assets to Tier 1 capital and
reserves ratio scores and the resulting effect on total assessments
and risk differentiation between institutions when determining
changes to the cutoffs. The FDIC may update changes to the higher-
risk assets to Tier 1 capital and reserves ratio cutoffs more
frequently than annually. The FDIC will provide institutions with a
minimum one quarter advance notice of changes in the cutoff values
for the higher-risk assets to Tier 1 capital and reserves ratio with
their quarterly deposit insurance invoice.
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\21\ 76 FR 10672, 10700 (February 25, 2011).
---------------------------------------------------------------------------
C. Application and Transition Guidance
Sections A through C of this Appendix C apply to:
(1) All construction and land development loans, whenever
originated or purchased;
(2) All C&I loans and securities originated or purchased on or
after October 1, 2012;
(3) All consumer loans and securities, except securitizations of
consumer loans and securities, whenever originated or purchased;
(4) All residential real estate loans and securities, except
securitizations of residential real estate loans, whenever
originated or purchased; and
(5) All securitizations of C&I loans, consumer, or residential
loans originated or purchased on or after October 1, 2012.
For consumer and residential real estate loans and securities
(other than securitizations) originated or purchased prior to
October 1, 2012, an institution must determine whether the loan or
security meets the definition of a higher-risk consumer loan and
security no later than December 31, 2012, using information as of
the date of the origination of the loan or security if the
institution has that information.\22\ If the institution does not
have that information, it must use refreshed data to determine
whether a loan or security meets the definition. Refreshed data is
defined as the most recent data available as if the loan or security
were being originated in the fourth quarter of 2012. In all
instances, the refreshed data used must be as of July 1, 2012 or
later.
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\22\ Institutions had to determine whether loans and securities
originated or purchased prior to October 1, 2012, met the definition
of a construction and land development loan or a nontraditional
mortgage loan in time to file accurate reports of condition as of
June 30, 2012, and September 30, 2012.
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For C&I loans and securities originated or purchased before
October 1, 2012, and all securitizations originated or purchased
before October 1, 2012, institutions must either continue to use
their existing internal methodology or existing guidance provided by
their primary federal regulator, or use the definitions detailed in
the February rule to determine whether to include the loan,
security, or securitization as a concentration in a risk area for
purposes of the higher-risk assets to Tier 1 capital and reserves
ratio.\23\
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\23\ 76 FR 10672 (February 25, 2011).
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D. Accounts Receivable and Automobile Dealer Floor Plan Lending
Guidance
1. Accounts Receivable
Loans secured by accounts receivable should be made with advance
rates at or below 75 percent to 85 percent of eligible receivables,
based on the receivable quality, concentration level of account
debtors, and performance of receivables as related to the
[[Page 18125]]
terms of sale.\24\ An institution's lending policy should address
the maintenance of an accounts receivable loan agreement with the
borrower. This loan agreement should establish a percentage advance
against acceptable receivables, include a maximum dollar amount due
from any one account debtor, address the financial strength of
debtor accounts, and define acceptable receivables. The definition
of acceptable receivables should consider the turnover and dilution
rates of receivables pledged, the aging of accounts receivable, and
the concentrations of debtor accounts.\25\
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\24\ Concentration of account debtors is the percentage value of
receivables associated with one or a few customers relative to the
total value of receivables. Compared to a lender with numerous
debtors, a lender with few debtors is exposed to a greater level of
risk if one of these debtors does not pay according to its account
agreement. Consequently, high levels of concentration reflect higher
risk for a lender and must cause the lender to hold higher reserves
(advance a lesser percentage) all else equal.
\25\ Turnover of receivables is the velocity at which
receivables are collected. In general, faster turnover increases the
advance rate imposed by the lender.
The dilution rate is the uncollectible accounts receivable as a
percentage of sales. The historical dilution rate will impact
advance rates. Higher uncollectible accounts will translate into a
larger reserve account and less funds advanced to the company.
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Ineligibles must be established for any debtor account where
there is concern that the debtor may not pay according to terms.
Examples of ineligibles include:
Accounts receivable balances over 90 days beyond
invoice date or 60 days past due, depending upon custom with respect
to a particular industry with appropriate adjustments made for dated
billings;
Entire account balances where over 50 percent of the
account is over 60 days past due or 90 days past invoice date;
Accounts arising from other than trade (e.g.,
royalties, rebates);
Consignment or guaranteed sales;
Notes receivable;
Progress billings;
Account balances in excess of limits appropriate to
account debtor's credit worthiness or unduly concentrated by
industry, location or customer; and
Affiliate and intercompany accounts.
2. Inventory
Loans against inventory should normally be made with advance
rates no more than 65 percent of eligible inventory (at the lower of
cost valued on a FIFO basis or market) based on an analysis of
realizable value. When an appraisal is obtained, up to 85 percent of
the NOLV of the inventory may be financed.
Ineligibles must be established for inventory that exhibit
characteristics that make it difficult to achieve a realizable value
or to obtain possession of the inventory. The following are examples
of when inventory is considered ineligible as collateral:
Slow moving, obsolete inventory and items turning
materially slower than industry average;
Inventory with value to the client only, which is
generally work in process; however, it may include raw materials
used solely in the client's manufacturing process;
Consigned inventory or other inventory where a
perfected lien cannot be obtained;
Off-premise inventory subject to a mechanic's or other
lien; and
Specialized, high technology or other inventory subject
to rapid obsolescence or valuation problems.
3. Minimum Account Management and Monitoring Standards for Asset
Based and Floor Plan Lenders
Accounts receivable and floor plan lending require a rigorous
level of account management compared to other forms of lending. A
hands-on approach to collateral evaluation and intense financial and
client monitoring must be used in order to properly manage these
relationships. Clients must submit periodic detailed reports that
are routinely analyzed. A staff of specially trained field auditors
should visit clients on a regular basis to inspect the collateral
and verify the accuracy of the reporting. Examples of detailed
reports that must be routinely provided to the asset-based lender
include:
Borrowing Base Certificates: A form prepared by the borrower
that reflects the current status of the collateral. Certificates,
along with supporting information, must be provided on a daily,
weekly or monthly basis, depending on the terms of the loan
agreement, the financial strength of the borrower and the amount of
availability under the revolver. Once received by the lender, this
certificate, along with the supporting information, must be
reconciled with internal collateral management systems to ensure the
accuracy of the collateral base, with any discrepancies reconciled
with the borrower. Key information contained in the certificate must
include:
The accounts receivable balance (rolled forward from
the previous certificate);
Sales (reported as gross billings) with detailed
adjustments for returns and allowances to allow for proper tracking
of dilution and other reductions in collateral;
Detailed inventory information (e.g., raw materials,
work-in-process, finished goods); and
Detail of loan activity.
Accounts Receivable and Inventory Detail: Monthly accounts
receivable and inventory agings must be received in sufficient
detail to allow the lender to compute the required ineligibles.
Accounts Payable Detail: Monthly accounts payable agings must be
received to monitor payable performance and anticipated working
capital needs.
Covenant Compliance Certificates: Borrowers should submit
Covenant Compliance Certificates, generally on a monthly or
quarterly basis (depending on the terms of the loan agreement) to
monitor compliance with the covenants outlined in the loan
agreement. Non-compliance with any covenants should be promptly
addressed to cure any defaults, with actions taken (e.g., waiver,
amendment, default pricing, blocking advance privileges) dependent
on the nature of each situation.
Definition of Terms Used in the Accounts Receivable and Automobile
Dealer Floor Plan Lending Guidance
Blocked Account: An account that is controlled by an agreement
that stipulates that all cash transferred out of the account must go
to the lender. Blocked accounts are controlled by the lender. The
borrower can make deposits into the blocked account, but maintains
no signature authority on the account. Funds flowing into the
blocked account originate from (i) direct deposit checks; (ii) lock
box deposits; or (iii) wire transfers from other institutions. In
the direct deposit or bulk method, the client receives checks from
its customers, batches them, and deposits them in kind to the
blocked account.
Lock Box: An agreement whereby the borrower's account debtors
mail their payment checks to a specified Post Office box controlled
by the lender. The lender opens the mail, processes the checks for
collection, and forwards a copy or other record of the checks to the
borrower. Lock box proceeds are deposited into the borrower's
blocked account.
E. Growth-Adjusted Portfolio Concentration Measure
The growth-adjusted concentration measure is the sum of the
values of concentrations in each of the seven portfolios, each of
the values being first adjusted for risk weights and growth. The
product of the risk weight and the concentration ratio is first
squared and then multiplied by the growth factor. The measure is
calculated as:
[GRAPHIC] [TIFF OMITTED] TP27MR12.123
Where:
N is institution i's growth-adjusted portfolio concentration
measure; \26\
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\26\ The growth-adjusted portfolio concentration measure is
rounded to two decimal points.
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k is a portfolio;
[[Page 18126]]
g is a growth factor for institution i's portfolio k; and,
w is a risk weight for portfolio k.
The seven portfolios (k) are defined based on the Call Report/
TFR data and they are:
Construction and land development loans;
Other commercial real estate loans;
First-lien residential mortgages and non-agency
residential mortgage-backed securities (excludes CMOs, REMICS, CMO
and REMIC residuals, and stripped MBS issued by non-U.S. Government
issuers for which the collateral consists of MBS issued or
guaranteed by U.S. government agencies);
Closed-end junior liens and home equity lines of credit
(HELOCs);
Commercial and industrial loans;
Credit card loans; and
Other consumer loans.27 28
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\27\ All loan concentrations should include the fair value of
purchased credit impaired loans.
\28\ Each loan concentration category should exclude the amount
of loans recoverable from the U.S. government, its agencies, or
government-sponsored agencies, under guarantee or insurance
provisions.
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The growth factor, g, is based on a three-year merger-adjusted
growth rate for a given portfolio; g ranges from 1 to 1.2 where a 20
percent growth rate equals a factor of 1 and an 80 percent growth
rate equals a factor of 1.2.\29\ For growth rates less than 20
percent, g is 1; for growth rates greater than 80 percent, g is 1.2.
For growth rates between 20 percent and 80 percent, the growth
factor is calculated as:
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\29\ The growth factor is rounded to two decimal points.
[GRAPHIC] [TIFF OMITTED] TP27MR12.124
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Where:
[GRAPHIC] [TIFF OMITTED] TP27MR12.125
V is the portfolio amount as reported on the Call Report/TFR and it
is the quarter for which the assessment is being determined.
The risk weight for each portfolio reflects relative peak loss
rates for banks at the 90th percentile during the 1990-2009
period.\30\ These loss rates were converted into equivalent risk
weights as shown in Table C.1.
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\30\ The risk weights are based on loss rates for each portfolio
relative to the loss rate for C&I loans, which is given a risk
weight of 1. The peak loss rates were derived as follows. The loss
rate for each loan category for each bank with over $5 billion in
total assets was calculated for each of the last twenty calendar
years (1990-2009). The highest value of the 90th percentile of each
loan category over the twenty year period was selected as the peak
loss rate.
Table C.1--90th Percentile Annual Loss Rates for 1990-2009 Period and
Corresponding Risk Weights
------------------------------------------------------------------------
Loss rates
Portfolio (90th Risk weights
percentile)
------------------------------------------------------------------------
First-Lien Mortgages.................... 2.3% 0.5
Second/Junior Lien Mortgages............ 4.6% 0.9
Commercial and Industrial (C&I) Loans... 5.0% 1.0
Construction and Development (C&D) Loans 15.0% 3.0
Commercial Real Estate Loans, excluding 4.3% 0.9
C&D....................................
Credit Card Loans....................... 11.8% 2.4
Other Consumer Loans.................... 5.9% 1.2
------------------------------------------------------------------------
Note: The following appendix will not appear in the Code of
Federal Regulations.
Appendix 1--Two-Year Probability of Default Information for Consumer
Loans
The FDIC intends to collect two-year PD information on various
types of consumer loans from large and highly complex institutions.
However, the types of information collected and the format of the
information collected will be subject to a Paperwork Reduction Act
notice (with an opportunity for comment) published in the Federal
Register. The following table is an example of how the FDIC may
collect the consumer loan information and the kind of information
that may be collected. Once the definition of higher-risk consumer
loans is adopted in a final rule, appropriate changes to the Call
Reports will be made and institutions will be expected to begin
reporting consumer loans according to the definition in the final
rule. In addition, as suggested in the example table, institutions
would report the outstanding amount of all consumer loans, including
those with a PD below the subprime threshold, stratified by the 10
product types and 12 two-year PD bands.\31\ In addition, for each
product type, institutions would indicate whether the PDs were
derived using scores and default rate mappings provided by a third
party vendor or an internal approach.\32\ If an internal approach
was used, the institution will also have to indicate whether or not
the internal approach meets the minimum number of PD bands and
observations required as described in the Requirements for PD
Estimation in Appendix C, Section A. Institutions would report as a
separate item the value of all securitizations of consumer loans
that are more than 50 percent collateralized by consumer loans that
would be identified as higher-risk assets (except those classified
as trading book).
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\31\ All figures would exclude the maximum amounts recoverable
from the U.S. government, its agencies, or government-sponsored
agencies under guarantee or insurance provisions, as well as loans
that are fully secured by cash collateral. In order to exclude a
loan based on cash collateral, the cash would have to be in the form
of a savings or time deposit held by the insured depository
institution. The insured depository institution would also have to
have a signed collateral assignment of the deposit account, which
was irrevocable for the remaining term of the loan or commitment,
and the insured depository institution would have to have placed a
hold on the deposit account, which alerts the institution if there
are attempts to withdraw or transfer the deposit funds. In the case
of a revolving line of credit, the cash collateral would have to be
equal to or greater than the amount of the total loan commitment
(funded and unfunded balance of the loan) for the exclusion to
apply.
\32\ An internal approach would include the use of an
institution's own default experience with a particular product and
credit score, whether that score was provided by a third party or
was internally derived.
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[[Page 18127]]
[GRAPHIC] [TIFF OMITTED] TP27MR12.126
By order of the Board of Directors.
Dated at Washington, DC, this 20th day of March 2012.
Federal Deposit Insurance Corporation.
Robert E. Feldman,
Executive Secretary.
[FR Doc. 2012-7268 Filed 3-26-12; 8:45 am]
BILLING CODE 6714-01-P